Estimation of Future Tax Revenue

Author Name HASHIMOTO Kyoji  (Faculty Fellow, RIETI) /OH Sunchung  (Kansai University)
Creation Date/NO. July 2008 08-J-033
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Figures for forecasts of future tax revenues are important reference materials when studying fiscal reconstruction. Forecasts of tax income by the government have been conducted on the assumption of an elasticity of tax revenue of 1.1 under a growth rate determined exogenously. This 1.1 value for the elasticity of tax revenue has been assumed from the past relationship between tax revenue and GDP.

The aim of this paper is to verify the validity of this assumption of the elasticity of tax revenue and to study more precise methods for forecasting tax revenue. For that purpose, in this paper we estimate the tax revenue function using the past tax revenue structure with regard to the main categories of national and local taxes. When estimating the tax revenue function, as explanatory variables we employ tax system variables such as the taxation base for each tax category, their proxy variables, and tax rates. However, with regard to income tax and individual inhabitant tax we use the results of forecasts derived from a simulation model that uses the income distribution and tax revenue structure of a benchmark year.

As a result of the simulation in this paper we obtain a figure of 1.07 for the elasticity of tax revenue for aggregate tax revenue, of 1.154 for national tax, and of 0.942 for local tax. It can be seen from this that the elasticity of tax revenue of 1.1 used by the government for long-term forecasting does not differ significantly from the result of accumulating individual revenue forecasts, though we also identify the existence of a disparity in elasticity of tax revenue between national and local taxes. The reason for the higher elasticity in the case of national taxes is that the elasticity of tax revenue from income tax is 1.791, which is higher than the corresponding figure of 1.024 in the case of inhabitant tax. In addition, we show that the change to proportional tax rates in local taxes resulting from the so-called trinity reform of the national and local government administrative and fiscal system in Japan has served to widen the disparities between these tax revenue elasticities even further. we demonstrate that the conventional government long-term tax revenue forecasts based on the assumption of a 1.1 tax revenue elasticity do not give rise to a particularly large difference from the estimate in this paper with regard to tax revenue as a whole, but they cause underestimation in the case of national tax, and overestimation in the case of local tax.