Consumption Taxes: Their Ramifications for Income Distribution

The distribution effects or incidence of consumption taxes such as the Value Added Tax (VAT), Goods and Services Tax (GST) remains a contentious issue. Three aspects have to be distinguished. First is the approach of distribution studies that tends to yield a result of regressivity; second is the computable general equilibrium (CGE) approach that views redistribution as one of incidence‘ among factors of production, in effect, subsuming the distribution of burdens among consumers; and third is the examination of distribution effects over a life cycle that finds the VAT-GST to be mildly progressive. A review of the literature indicates that it is difficult to demonstrate that the VAT is not regressive or adverse for income distribution unless accompanied and countered by a redistributive expenditure package. Countries nevertheless opt for the VAT-GST since it is simple to design and administer, its compliance is believed to be
higher than for the income tax, its compliance cost for the taxpayer is lower, and its revenue generating capacity is higher and more certain.