Abstract

Government continuously operates with revenues below expenditures and taxation is increasingly becoming a sensitive political and economic tool to be relied upon as an instrument for revenue generation and economic growth. This study seeks to examine the impact of tax policy and donor inflows on economic growth in Malawi from 1970 to 2010 using data envelope analysis (DEA) and transcendental logarithm (Translog). In doing the Translog, the study employed the Engle and Yoo three step estimation process. Data analyzed shows that consumption taxes have on average contributed 60.0% to total tax revenue while income taxes take up 40.0%. Tax burden has ranged from 11.0% in the 1970s to around 16.0% in 2010. Results of the study show that a 1.0% decrease in tax burden can raise economic growth by 0.8% in Malawi while a similar reduction in collection of taxes through expenditure can raise growth by 0.6%. Another finding is that economic growth rises by 0.3% for a 10.0% rise in foreign grants. The study therefore finds that reduction in tax burden is more potent in influencing economic growth than fine tuning the proportion in which income and consumption taxes are collected in Malawi. Furthermore, a complete reversal in donor funding will reduce economic growth by 3.0%.

Key words: Data envelope analysis, direct taxes, indirect taxes, transcendental logarithm.