The Tax system and Foreign Direct Investment in Africa

What is it about?

This study examines the effect of three aspects of SSA’s tax system (the number of taxes firms are required to pay, the time it takes firms to comply with tax obligations and the corporate tax rate) on FDI stock. Using a panel of 36 countries in sub-Saharan Africa from 2005 to 2016 and employing dynamic system GMM regression approach, the findings show a statistically significant negative effect of all measures of tax system obligations. However, the effect of the number of taxes and the time it takes to honour tax obligations are found to have greater negative effect. The findings show that although foreign investors are attracted by natural resources, they are discouraged by the complicated and bureaucratic demands of the tax system. This challenges the conventional notion that FDI will always be attracted to and be maintained in Africa as long as there are natural resources. As a practical policy implication, the efforts by SSA policymakers to attract and maintain FDI should place emphasis on the harmonisation and simplification the tax systems by reducing the number of taxes as well as the time it takes to honour tax obligations.

Featured Image

Why is it important?

Paying attention to these specifics is important because they shed light on how FDI reacts differently to these different demands from the tax system. Knowledge about this is crucial for designing well-targeted policies to improve FDI stock in the sub-region. Restricting the study to sub-Saharan Africa is important because the region is unique relative to other regions not only in terms of factors that drive and sustain FDI but also in terms of economic structures (Brunetti, Kisunko, & Wider, 1997; Batra, Kaufman, & Stone, 2003; (Asiedu, 2002). The policy prescriptions from studies on advanced economies cannot be relevant to developing economies due to differences economic structures among others.