Macro economic determinants of tax revenue in Nepal

Abstract

Financing public expenditures requires substantial resources. Tax revenues are pivotal due to their regular and mandatory nature, serving as a critical instrument for revenue generation and resource mobilization. Nepal has committed to achieving Sustainable Development Goal 17.1 by 2030, aiming to increase tax revenue to 30 percent of GDP and finance 80 percent of government expenditure through internal revenue. Therefore, enhancing a country's tax revenue performance has become imperative. The objective of this study is first to analyze the trends and structure of tax revenue (TR), foreign trade (Trade), service sector’s GDP (GDP), per capita income (PCI), and foreign aid (FA), and secondly, to examine the effect of these variables on tax revenue. The coefficients of these variables were estimated using the Autoregressive Distributed Lag (ARDL) model using time series data for the period from 1975 to 2021. The study identified that per capita GDP and foreign trade are positive and significant determinants of tax revenue in the long run, whereas foreign aid and service sector’s GDP lacks statistical significance. In the short run, Trade, per capita GDP, and foreign aid exhibit a positive and significant relationship with tax revenue. Relying heavily on foreign trade taxes poses challenges to government fiscal stability and economic growth due to revenue volatility from international trade fluctuations. Achieving a balanced approach between foreign trade taxes and import substitution policies is essential for sustainable economic development and resilience against fiscal shocks.