Unlocking Pakistan’s Revenue Potential

Abstract

Pakistan’s tax revenue remains low relative to comparator countries and the tax effort expected for the country’s level of development. This creates significant challenges in providing the much-desired fiscal space to expand growth-enhancing expenditure on infrastructure, education, health care and targeted social assistance. This article estimates both short-run and long-run elasticities of tax revenue in Pakistan over the period 1960–2015 to better understand the evolution of tax revenue in the context of changing economic activity, using a novel identification strategy based on the instrumental variable (IV) approach and an error correction model (ECM) to address concerns about the potential endogeneity of tax revenue and economic growth. The empirical results indicate that both short-run and long-run elasticities of tax revenue are slightly above 1 over the sample period. There is, however, significant variation in short-run and long-run elasticities across subcategories of tax revenue. These findings underscore the need for a concerted agenda of comprehensive reforms at federal and provincial levels aimed at broadening tax bases, strengthening revenue administration and taxpayer compliance, eliminating distortionary and overgenerous tax concessions and exemptions, and rationalizing tax policy in an efficient and equitable manner. JEL: C23, C32, E62, H2, H62, H68