Does Economic Complexity matter for the Mobilisation of Tax Revenues?

Abstract

Despite their importance and policies to improve their collection, tax revenues in some economies, especially developing ones, are low compared to the financing needs for economic development and growth. Whereas the literature has identified a wide range of tax mobilisation drivers, this paper stands out from previous contributions by emphasising the role of economic complexity, especially as is a robust predictor of economic development, improves human capital and mitigates income inequality which are the key determinants of tax revenue. Using a sample of 124 developed and developing countries, this paper postulate that the differences in economic complexity explain the difference in tax collection and therefore investigates the effect of economic complexity on tax revenue. Our key finding is that the more complex an economy is, the more taxes it mobilises. This finding survives several robustness analyses that use an alternative measure of economic complexity, and endogeneity issues resulting from the reverse causality between economic complexity and tax revenue. Our result is supported by the view that economic complexity improves economic development and human capital and reduces income inequality which therefore ameliorates tax collection. However, when dealing with the type of taxes this finding holds only in developing countries since in developed ones’ economic complexity hampers the mobilisation of trade and indirect taxes. In sum, these results call for measures aimed at improving diversification through industrialisation and encouraging innovation. JEL: O14, O33, H20, H21