Commodity Price Volatility and Tax Revenue: Evidence from Developing Countries

The recent boom and bust in commodity prices has renewed the policymakers' interest in three complementary issues: i) characteristics and determinants of commodity price instability, ii) its macroeconomic effects and, iii) the optimal policy responses to this instability. This work falls within the scope of studies dedicated to the macroeconomic effects of commodity price instability, but focuses on the impact on public finance, while existing works were concentrated on growth. This paper also differs from the few previous studies on two aspects. First, we test the impact of commodity price volatility rather than focusing only on price levels. Second, we use disaggregated data on tax revenues (income tax, consumption tax and international trade tax) and on commodity prices (agricultural products, minerals and energy) in order to identify transmission channels between world prices and public finance variables. Our empirical analysis is carried out on 90 developing countries over 1980-2008. We compute an index which measures the volatility of the international price of 41 commodities in the sectors of agriculture, minerals and energy. We find robust evidence that tax revenues in developing countries increase with the rise of commodity prices but that they are hurt by the volatility of these prices. More specifically, price short-run volatility of imported commodities hurts tax revenues through trade and consumption taxes, while price medium-run volatility of export hurts tax revenues through both indirect and direct taxes. These findings point at the detrimental effect of commodity price volatility on developing countries public finances and highlight further the importance of finding ways to limit this price volatility and to implement policy measures to mitigate its adverse effects.