TAX REFORMS & REVENUE MOBILISATION: A CASE STUDY …

TAX REFORMS & REVENUE MOBILISATION: A CASE STUDY OF

THE MINING SECTOR OF GHANA

BY

HARRISON LOUIS APPIAH

(10224358)

THIS THESIS IS SUBMITTED TO THE UNIVERSITY OF GHANA,

LEGON IN PARTIAL FULFILLMENT OF THE REQUIREMENT

FOR THE AWARD OF MPHIL ECONOMICS DEGREE

JUNE, 2013

University of Ghana http://ugspace.ug.edu.gh

i

DECLARATION

I hereby declare that this thesis is the result of research undertaken by me towards the

award of the Master of Philosophy (MPHIL) degree in Economics in the Department of

Economics, University of Ghana under the supervision of the under signed lecturers.

…………………………..

LOUIS HARRISON APPIAH

(10224358)

SUPERVISORS

Name: DR. S.K.K. AKOENA

Signature: ……………………..

Date: ………………………….

Name: DR. D. K. TWEREFOU

Signature: .........………………………

Date: ……………….............................


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ABSTRACT

A strong and efficient tax system provides the basis for enhanced economic growth and

development. Ghana‘s fiscal structure prior to 1983 had generally been characterized by

low revenue. As a result, Ghana undertook a number of reforms prescribed by the

International Monetary Fund (IMF) and the World Bank under the Economic Recovery

Programme (ERP) and the Structural Adjustment Programme (SAP). Under the

programmes, numerous policies were amended to establish a more attractive investment

climate for foreign-owned mineral-exploration and extraction companies. The country‘s

mining industry has since expanded rapidly experiencing, by 2004, a fivefold increase in

annual gold output and big rises in bauxite, diamond, and manganese production.

However, at the same time, there is an on-going debate as to whether the country is

benefiting from mining operations in terms of tax revenue mobilization. The purpose of

this study is to assess the impact of fiscal regimes in the mining sector in Ghana on

revenue mobilization in the sector using tax elasticity and buoyancy ratios.

The Singer method of dummy variables was employed in order to make adjustment for the

effect of discretionary tax measures so as to compute and then compare buoyancy and

elasticity measures. The empirical results indicated that buoyancy estimates were higher

than elasticity estimates; and the short-run elasticities were lower than the static long-run

elasticities. Estimation results further showed that discretionary tax measures were

effective in mobilizing additional tax revenues and that the tax system was inelastic during

the period. The study recommends that there is the need to reduce capital consumption


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allowances, a holistic review of the principle of ring-fencing and identifying new sources

of taxation that are elastic.


iv

DEDICATION

I wish to dedicate this work to my parents, Mr. andMrs. Harrison Mensah and to my sister,

Richlove Harrison Mensah, for their sacrifices and support throughout my educational

career.


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ACKNOWLEDGEMENT

I thank the Lord God Almighty for his grace, mercy, strength, kindness and love towards

me throughout my stay in school. Special thanks also go to my father, Mr. Edmund

Harrison Mensah for his financial support and helping me attain my educational dreams.

My gratitude also goes to my supervisors Dr.S.K.K AkoenaandDr.D.K Twerefou for their

support, encouragement and guidance. I am grateful to Mr. Yaw Benneh-Amponsah and

Abdallah Ali-Nakyeafor their useful comments and support while undertaking this

research. I extend my heartfelt gratitude to Mr. Kwame Aryeh of Merson Capital for his

encouragement and advice.ToMr. Abel Fumey of the Department of Economics,

University of Ghana for his time and knowledge imparted in this work.

Further, I wish to thank EsenamMedemeAgradi of the Minerals Commission of Ghana,

Mr. Emmanuel Danso of the Ghana Chamber of Mines for their respective roles in

sourcing for data for this work.

Finally, I wish to acknowledge the staff of Merson Capital who in one way or the other

contributed to the successful completion of this work and toNana YaaDarko for her

academic and emotional support.

However, though I received a lot of guidance and support from technocrats and colleagues,

I hereby declare total responsibility for any errors, omissions or misrepresentation that

may be found in this work.

Louis Harrison Appiah

June, 2013


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TABLE OF CONTENTS CONTENT PAGE

DECLARATION ............................................................................................................................. i

ABSTRACT .................................................................................................................................... ii

DEDICATION ............................................................................................................................... iv

ACKNOWLEDGEMENT .............................................................................................................. v

TABLE OF CONTENTS ............................................................................................................... vi

LIST OF TABLES ......................................................................................................................... xi

LIST OF FIGURES ...................................................................................................................... xii

ABBREVIATIONS ..................................................................................................................... xiii

CHAPTER ONE: INTRODUCTION ............................................................................................. 1

1.0 Background of the study ................................................................................................. 1

1.1 Research Problem ........................................................................................................... 4

1.2 Objectives of the Study ................................................................................................... 6

1.3 Justification and Significance of the Study ..................................................................... 7

1.4 Organization of the Study ............................................................................................... 8

CHAPTER TWO: FISCAL OVERVIEW .................................................................................... 10

2.0 Introduction ................................................................................................................... 10

2.1 Overview of the Mining Sector ..................................................................................... 11

2.1.1 Restructuring of Mining Sector Legislation ............................................................... 14


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2.2 Trends in Fiscal Regime ............................................................................................... 15

2.3 Taxes ............................................................................................................................. 17

2.3.1 Mineral Royalties ....................................................................................................... 17

2.3.2 Corporate Income Taxes. ........................................................................................... 18

2.3.3 Windfall or additional profits taxes ............................................................................ 19

2.3.4 Withholding taxes ...................................................................................................... 19

2.3.5 Capital Gain Taxes ..................................................................................................... 20

2.3.6 Employee Pay Roll Tax (PAYE) ............................................................................... 20

2.4 Mining Sector Fiscal Incentives.................................................................................... 21

2.5 Economic Impact of Fiscal Regimes ............................................................................ 23

2.5.1 Foreign Direct Investment.......................................................................................... 23

2.5.2 Revenue Performance ................................................................................................ 25

2.5.3 Output Trends............................................................................................................. 27

2.5.4 Export Earnings .......................................................................................................... 29

2.6 Measures Adopted to Enhance National Revenue Mobilization .................................. 30

2.7 Conclusion .................................................................................................................... 33

CHAPTER THREE: REVIEW OF LITERATURE ..................................................................... 34

3.0 Introduction ................................................................................................................... 34

3.1 Role of Taxation ........................................................................................................... 34

3.2 Theoretical aspects of tax reforms ................................................................................ 35


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3.2.1 Tax Reform and Optimal Taxation ............................................................................ 38

3.2.2 Measuring Tax Revenue Productivity ........................................................................ 43

3.3 Tax Types...................................................................................................................... 49

3.3.1 Royalties ..................................................................................................................... 49

3.3.2 Company Income Tax ................................................................................................ 51

3.3.3 Export and Import Taxes ............................................................................................ 52

3.4 Empirical Literature Review ......................................................................................... 52

3.4 Problems with tax reform.............................................................................................. 59

3.5 Lessons for Tax Reform................................................................................................ 60

3.6 Conclusion .................................................................................................................... 63

CHAPTER FOUR: METHODOLOGY& DATA USED IN THE STUDY ................................ 64

4.0 Introduction ................................................................................................................... 64

4.1 Analytical Framework .................................................................................................. 64

4.2 Tax Elasticity ................................................................................................................ 65

4.3 Buoyancy of Tax ........................................................................................................... 68

4.4 Model Specification ...................................................................................................... 70

4.5 The Dummy Variable Approach ................................................................................... 73

4.6 Estimation Techniques .................................................................................................. 74

4.6.1 Taxes Considered ....................................................................................................... 74

4.6.2 Choice of tax bases and Data Sources ........................................................................ 74


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4.7 Data Characteristics ...................................................................................................... 76

4.7.1 Unit Root Test for Stationarity ................................................................................... 76

4.7.2 Cointegration analysis ................................................................................................ 77

4.7.3 Error Correction Model (ECM) ................................................................................. 78

CHAPTER FIVE: PRESENTATION & DISCUSSION OF RESULTS ..................................... 79

5.0 Introduction ................................................................................................................... 79

5.1 Results of Unit Root Test .............................................................................................. 79

5.1.1 Results of Cointegration Test ..................................................................................... 81

5.2 Regression Results ........................................................................................................ 85

5.2.1 Tax Buoyancy: Long Run and Short Run .................................................................. 86

5.2.2 Decomposed Buoyancy into Tax-to-Base and Base-to-Income Elasticities .............. 89

5.2.3 Income elasticity of the Mining Tax System in Ghana .............................................. 93

5.3 Comparison of Tax Buoyancy and Elasticity ............................................................... 96

5.4 Conclusions ................................................................................................................... 96

CHAPTER SIX: SUMMARY, CONCLUSION AND RECOMMENDATIONS ....................... 99

6.0 Introduction ................................................................................................................... 99

6.1 Recommendations ....................................................................................................... 101

6.1.1 General Recommendations ...................................................................................... 101

6.1.2 Specific Recommendations ...................................................................................... 102

6.3 Limitations of the Study.............................................................................................. 105


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REFERENCES ........................................................................................................................... 106

APPENDIX ................................................................................................................................. 112


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LIST OF TABLES

TABLE PAGE

Table 1.0: Tax revenue by Agencies (in % of total tax revenue) .................................................. 3

Table 2.0: Percentage shares of mining tax revenue to total GRA collections. ........................... 26

Table 2.1: Production of minerals ............................................................................................. 28

Table 2.2: Mineral and Total exports for selected years. (export value in million USD) ............ 29

Table 3.0: Summary of Some Key Empirical Studies ................................................................ 59

Table 4.0: Description of Various Taxes and Their Proxy Bases ............................................... 75

Table 5.0: Results of Augmented Dickey-Fuller (ADF) Test for Unit Root ............................... 80

Table 5.1: Engle-Granger Two Step Cointegration Test: Buoyancy Results .............................. 81

Table 5.2: Engle-Granger Two Step Cointegration Test: Tax-to-Base Elasticity Results ........... 83

Table 5.3: Engle-Granger Two Step Cointegration Test: Base-to-Income Elasticity Results ...... 85

Table 5.4: Estimated Tax Buoyancy Results of the Tax system in Ghana‘s Mining Sector ........ 87

Table 5.5: Estimated Tax-to-Base Elasticity of the Mining Sector Tax System ......................... 90

Table 5.6: Estimated Base-to-Income Elasticity of the Mining Sector Tax System .................... 92

Table 5.7: Estimated Tax Elasticity Results of the Tax system in Ghana‘s Mining Sector ......... 93

Table 5.8: Estimates of Long Run Tax Buoyancy and Elasticity ............................................... 96


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LIST OF FIGURES

FIGURE PAGE

Figure 2.0: Total Investment Inflow into the Mining Sector of Ghana ....................................... 24

Figure 5.0: Graphical Representation of the log of Tax variables and their respective bases. ..... 79

Figure 5.1: Co-integration Graphs for the Buoyancy Equation .................................................. 82

Figure 5.2: Cointegration Graphs for the Tax-to-Base Residuals ............................................... 84


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ABBREVIATIONS

ADF Augmented Dickey Fuller

APT Additional Profit Tax

CEPS Customs, Excise and Preventive Service

DTMs Discretionary Tax Measures

DTRT Double Taxation Relief Treaties

ECM Error Correction Models

ERP Economic Recovery Programme

FDI Foreign Direct Investment

GoG Government of Ghana

GCNET Ghana Customs Management System

GDP Gross Domestic Product

GRA Ghana Revenue Authority

GSE Ghana Stock Exchange

GSS Ghana Statistical Service

HTSTD Historical Time Series Tax Data

IFC International Finance Corporation

IMF International Monetary Fund

IRS Internal Revenue Service

JCI Johannesburg Consolidated Investments

LTU Large Taxpayer Unit

MDGs Millennium Development Goals

MIGA Multilateral Investment Guarantee Agency

OLS Ordinary Least Squares

PAYE Pay-As-You-Earn

SIC Schwarz Information Criterion

TIN Tax Identification Number

VAT Value Added Tax

WTO World Trade Organization


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CHAPTER ONE

INTRODUCTION

1.0 Background of the study

Ghana was among a host of developing countries that experienced fiscal crises in the

1970s and 1980s. These fiscal imbalances led to undesirable impacts on domestic prices,

interest rates and balance of payments. Thefiscal imbalances also led to differing policy

instruments for accelerating growth. There are a number of policy instruments that can be

used to accelerate growth. Tax reforms constitute a major type of policy instrument used in

Ghana. During the last decade, the country has consistently spent more revenue than it is

able to generate. These deficits have often been financed with foreign aid which underlines

the country‘s aid dependency. As the government needs to spend more on sectors such as

health, infrastructure and education, the critical issue has been how to effectively and

efficiently mobilize tax revenue using tax instruments that are least harmful to the poor.

This will thus involve reforming the tax system to ensure efficiency.

World Bank (1988) defines taxation as ‗compulsory, unrequited payments made to the

government by individuals, businesses or institutions‘. This underlines the principle that

taxation is compulsory and legal. There are four main components of taxes in Ghana,

namely, taxes on income and property, taxes on domestic goods and services, international

trade taxes and value-added tax. The value-added tax was the last one to be operational. It

was introduced initially in 1995, withdrawn and re-introduced in 1998. Prior to 1999 when

VAT became operational, taxes on international trade were the major component of tax


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revenue in Ghana, followed by taxes on domestic goods and services and then taxes on

income and property. Total tax revenue for the year 2011 amounted to 17.5% of Gross

Domestic Product (GDP). Taxes on international trade as a proportion of total revenue

averaged 18.80% (Bank of Ghana, 2011).

Before 1990, macroeconomic analyses and projections were not exhaustively undertaken

to provide a base for effective and consistent fiscal policy formulation. The not too

successful fiscal performance in the period lies at the heart of the economic crisis the

country experienced. As the expenditure-revenue gap widened, deficit financing became

the principal source of the budgetary support, causing the share of government borrowing

from the domestic banking system mainly from the central bank, to increase from 49% in

1970 to 86% in 1982 (Kusi, 1991).

In 2001, the government opted for the Highly Indebted Poor countries initiative of the

World Bank and the IMF mainly because the economy was characterized by rapid

exchange rate depreciation, high inflation and very low external reserves. The severe crisis

was partly due to high debt service requirements that affected the budget of the

government and impacted negatively on the balance of payments (Bank of Ghana, 2003).

On revenue mobilisation, national tax collections have increased from about GHS 423.58

million in 2000 to about GHS 3971.42 million in 2008 at an average growth of about 33%.

In terms of collection of the various agencies as a percent of total tax, collection by

Customs Excise and Preventive Services (CEPS) alone is more than that of the other two

agencies. CEPS collections have averaged about 54% of total tax revenue. About 40% of

these collections come from Import VAT which is eventually credited to the accounts of


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Agency 2000 2001 2002 2003 2004 2005 2006 2007 2008

IRS 31.9 32.4 33.0 32.0 32.0 31.3 31.0 30.0 33.0

VATS 13.6 11.6 12.7 11.9 12.7 13.6 15.0 15.3 15.5

CEPS 55.5 56.0 54.3 56.1 55.3 55.1 54.0 54.7 51.5

TOTAL* 423.58 655.70 860.81 1,278.28 1,686.50 2,057.60 2,370.82 3,040.23 3,971.42

Source: Twerefou et al, 2010 *Totals are stated in million GHS

VAT services in addition to the Domestic VAT thereby making VAT a better performing

tax in Ghana.

Table 1.0: Tax revenue by Agencies (in % of total tax revenue)

In spite of the efforts made, there exist some challenges in tax administration. Tax revenue

to GDP remains low at about 14% in 2007 compared to Sub Saharan African average of

18%. Also, the heavy reliance on Indirect Taxes poses a major challenge. About 70% of

total tax revenue in Ghana is comprised of indirect taxes - mainly VAT and trade taxes.

Revenue from direct taxes has risen over the last decade but has never exceeded 30% of

total tax revenue. Additionally, the narrow tax base presents a risk to the government and

poses a serious challenge. Disaggregated data reveals that the tax system depends on a

small number of large taxpayers who contribute the largest share of tax revenue – about

60% of the total income tax and 90% of the total turnover for VAT purposes.

The Mining sector of Ghana accounts for 27.61% of the country's total contributions to

GRA (Ghana Revenue Authority, 2011). Mining companies‘ tax obligations which cover

corporate tax, withholding tax and levies was 38.27% of the total company tax that GRA

collected in 2011. Ghana is Africa's 2nd largest gold producer, producing 80.5 t in 2008.

Ghana is also a major producer of bauxite, manganese and diamond. According to


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Wikipedia.com, the country has over 23 large-scale mining companies producing gold,

diamonds, bauxite and manganese, and, there are also over 300 registered small scale

mining groups and 90 mine support service companies. Other mineral commodities

produced in the country are natural gas, petroleum, salt and silver. Ghana‘s economy

depends largely on exports of cocoa and gold.

The economic impact from the mining industry cannot be underestimated. For example in

2010, a 6.8% GDP growth was recorded by the economy on account on the performance

of the mining sector (GSS, 2011). An average of 25% was returned through the Bank of

Ghana to satisfy its statutory obligations and a further 43% through the commercial banks

with which the companies transact business. The inflows provided a significant cushion to

the local currency as it performed quite creditably against the country‘s trading currencies

(Chamber of Mines, 2010).

1.1 Research Problem

Wagner‘s law stipulates that public expenditure is a natural consequence of economic

growth (Demirbas, 1999). In an attempt to increase growth, successive governments have

raised public expenditure but have not been able to match it with revenue mobilization

through taxation and this has resulted in huge budget deficits. World Bank data of Ghana

indicates that tax revenue as a ratio of GDP is about 13.9% in 2008, lower than the Sub-

Saharan African average of 15.7%.


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As Kaldor (1964) pointed out, the importance of public revenue to developing countries

can hardly be exaggerated if they are to achieve their hopes of accelerated economic

progress. It is important for a country like Ghana to reduce its dependence on external

finance as such financing may not be permanently available. The frequent deficit financing

and reliance on foreign aid call for increased efforts at generating revenues locally for

financing public expenditures. For example, between 2007 and 2010, Net Official

Development assistance and official aid received grew from 1.2 billion USD to 1.7 billion

USD in 2010 marking an increase of 417 basis points (World Bank Data).

World Bank data also indicates that Ghana‘s tax revenue as a ratio of total revenue is about

80% for 2011. Tax revenues from the mining sector as a percentage of total revenue raised

by Internal Revenue Service from 1990 to 2010 has averaged 12.62% (Minerals

Commission, 2010).

Various fiscal regimes have been put across by the tax authority as measures to boost

revenue generated from the mining sector. For a sector that has become synonymous with

Foreign Direct Investment, the focus has to be redirected towards ensuring that these

reforms attain the maximum possible beneficial impact through revenues and that the

growth of the mining sector is sustained in an orderly manner. It is therefore imperative

that a research be done to ascertain the buoyancy and elasticity of the tax system to

evaluate the revenue mobilisation capacity in the advent of these reforms.

The research questions are as follows:

What has been the process of tax reforms in the mining sector of Ghana?


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What is the value of buoyancy and elasticity of individual mining taxes (specific to

the mining sector)?

Have these reforms improved revenue mobilisation?

What lessons do the outcomes have for policy makers in Ghana?

These are the research problems the study seeks to explore.

1.2 Objectives of the Study

In reducing the fiscal deficit as part of a structural adjustment programme, it is important

to be able to project what additional revenue can be mobilized within the existing tax

system as the economy grows. This requires an analysis of the revenues sources and their

responsiveness to GDP growth. Such an analysis will permit the identification of the

sources of fast revenue growth or, conversely, the causes of lagging revenue growth,

thereby suggesting measures to adopt to maximize revenue within the existing tax system

and/or the need to activate additional means of revenue generation.

The research;

Seeks to evaluate the tax revenue productivity of the mining sector tax system and

of individual taxes on the basis of estimates of tax elasticities and buoyancies. This

objective seeks to answer the research questions of the value of buoyancy and

elasticity of individual mining taxes.


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Attempts to explain the links of tax reform measures to mining sector performance

and assess ways of mobilizing additional revenue. This objective will answer the

research question of whether the reforms have improved revenue mobilisation and

what lessons policy makers can draw.

1.3 Justification and Significance of the Study

Since the discovery of minerals in Ghana, the mining industry has played a tremendous

role towards the economic development of the nation. This is reflected in the sector‘s

contribution to foreign exchange, revenue, employment, GDP, and community

development through its corporate social responsibilities.

Mineral export for instance increased from 20% in the 1980s to 38% in 1998 of gross

foreign exchange earnings, with export earnings rising from USD 109.9 million in 1992 to

USD 717.8 million and further increased to USD 757 million in 2002, (Akabzaa, 2000).

Government revenues from royalties, PAYE, Levies and corporate taxes paid by mining

companies rose from GHS 2.5 million in 1994 to GHS 520 million in 2010. Also over the

same period, the contribution of royalty payments alone to total revenue collected by the

IRS rose from 4% in 1994 to 6% in 2010 (Ghana Chamber of Mines, 2010).

This study seeks to add to existing literature by bridging gaps in it. No study has been

conducted on the tax revenue productivity after the ERP on the individual sectors of the

Ghanaian economy.


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In addition to bridging gaps in literature, this study will also enable us to better understand

the influence of the mining sector in terms of tax revenue performance.

In view of the role played by the mining sector in the economy, it is imperative that the

tax instruments are attractive enough to investors and at the same time generate a flow of

revenue for the government particularly because it is necessary that domestic resource

mobilisation is enhanced as a strategy for sustained growth and development. Indeed, as a

result of dwindling external resources, the Monterey Consensus (2002), Paris Declaration

(2005), Financing for Development in Doha (2008) and the Accra Agenda (2008)

underscored the need for efficient taxation systems to boost domestic revenue

mobilisation.

For the single act of policy direction, this research will identify which taxes are naturally

elastic or otherwise. With an inelastic tax system, a rising public expenditure may be

financed either through higher money supply with all the attendant problems of inflation

and balance of payment crises, or by annual upward revision of the existing tax rates. Also

an elastic tax system is efficient and acts as an instrument of stabilization.

1.4 Organization of the Study

The research is organized into six main chapters. Chapter 1 gives the motivation and

general background of the study. Chapter 2 looks at the fiscal overview of the Ghanaian

economy as well as the tax structure and reforms in Ghana with emphasis on the mining

sector. The third chapter makes an assessment of existing literature on tax reforms, both


9

theoretical and empirical. Chapter 4 and 5 consist of the research methodology adopted for

the study, focusing on the analytical framework, the empirical estimations and results

which entail model specification and estimation procedure respectively. The data source,

definition of variables and their proxies are also considered in the 4th

chapter. The sixth

summarizes and concludes the study with suggested recommendations and limitations of

the study.


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CHAPTER TWO

FISCAL OVERVIEW

2.0 Introduction

Ghana faces daunting challenges of mobilising adequate resources to finance long-term

development, fight poverty and meet the main targets of the Millennium Development

Goals (MDGs) by the set deadline of 2015. With the deteriorating global financial system

that mitigated the chances of African countries to access external resources for

development goals, Ghana will have to focus on domestic revenue mobilisation as a better

alternative to meeting its development goals.

Taxes constitute a mainstay of domestic revenue yet Ghana which is endowed with

extractive resources which have attracted substantial Foreign Direct Investment has not

succeeded in mobilising substantial tax revenue from the extractive resources sector.

(Akabzaa, 2009).

The quantum of revenue that Ghana can exact from the mining sector will be dependent on

institutional and policy efficiency. Fiscal regimes define the quantum of taxes and tax

incentives for the mining sector.


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2.1 Overview of the Mining Sector

Ghana like many African countries is endowed with enormous natural resources. Ghana is

the second largest gold producer in Africa after South Africa, the third biggest African

producer of manganese ore, and a significant producer of bauxite and diamonds.

Significant deposits of iron resources also exist. In addition, a number of industrial

minerals, including clays, dimension stone, limestone, common salt and silica sand, are

produced in commercial quantities. Ghana‘s enormous mineral endowment is credited to

the geological location. The country falls within the Precambrian rock shield of West

Africa that traditionally hosts most of the mineral resources of the continent.

According to Kesse (1985), when the Portuguese arrived in 1471, gold dust had been used

by the indigenous people for ceremonies and jewellery. Gold from Ghana accounted for 36

percent of total world gold output between 1493 and 1600 but declined to 3.70 percent in

2011(US Geological Survey, 2012). After independence, mining became one of the

government‘s main channels of mobilizing revenue and foreign exchange for its

developmental agenda. Many state owned exploration, mining and commodity buying

companies were established by the first post independence government of Ghana. This was

in consonance with government‘s belief of permanent sovereignty over the country‘s

natural resources.

In the early 1980s, as part of the structural adjustment programmes, the mining sector

received special attention with huge doses of financial and technical assistance from the

World bank, the International Monetary Fund, and other bilateral lenders, mainly

governments‘ of major transitional mining companies. The main objectives of the reforms


12

included; halting the decline in production by attracting international financial resources to

existing mines for rehabilitation of equipment and machinery as well as upgrading mine

infrastructure; improving management practices in state owned mines; instituting

macroeconomic and legal measures to attract investment in exploration for new mines and

expansion of old ones. The government‘s role was thus constrained to providing

administrative and regulatory oversight to the sector.

During the first years of the programme, the strategy sought to increase the worth of

existing mines through rehabilitation and to promote the opening up of new mines by

private companies, through government facilitated participation of the International

Finance Corporation (IFC). Ashanti Goldfields, which had the government of Ghana as

55% majority shareholder, enjoyed loans from multilateral and bilateral financial agencies

facilitated and guaranteed by the government. The company received a total of over $260

million, financed by a consortium of banks led by the IFC during this period for expansion

and rehabilitation of its operations from 1986 through to 1995. The expansion programme

included the introduction of open pit mining and the introduction of bulk cyanide heap

leaching operations and the provision of pollution abating technology including the

installation of bioxidation plant for the treatment of sulphide rich gold ore (Akabzaa et al,

2005). The rest of the existing mines, which were wholly state-owned such as the former

State Gold Mines at Tarwka, Dunkwa and Prestea); the Ghana Consolidated Diamond

Limited and Ghana Manganese Company Limited were given out to various groups of

investors under management contract agreements.

Having increased the worth and efficiency of the mines, the second phase of the reform

strategy involved the divesture of the state‘s interest in these mines. In all cases, but


13

Ashanti Goldfields Limited and Ghana Bauxite Company Limited, there was complete

divesture of hitherto state-owned mines to the private sector with government maintaining

a statutory 10% free carried equity as required by the Minerals and Mining Law.

Foreign multinational companies who had management contract agreements eventually

bought these mines, except in cases where they found them unviable. For instance,

Goldfields South Africa ran the Tarkwa mine on management contract from 1993 to 1994

and eventually purchased it in 1995. Johannesburg Consolidated Investments (JCI),

another South African company, ran the Prestea mine on contract from 1995 to 1996 and

purchased it in 1997. The Ghana National Manganese Corporation was taken over by a

group of Norwegian and German investors in 1993, who eventually acquired it in 1995.

However Ghana Consolidated Diamonds limited, which was managed by De Beers, the

South African diamond mining and trading giant, on contract, had failed to attract buyers

and De Beers refused to exercise its option to purchase it. It has since remained on the

divestiture list. The government also provided and continued to provide sovereign

guarantees with assistance from IFC, MIGA and other international credit agencies for the

smooth take-off some of the new mines such the Ghana Australia Goldfields Limited, now

AngloGold Ashanti (Iduapriem) Mine Limited.

In the case of Ashanti Goldfields Corporation, the government progressively reduced its

stake to 19% in 1998, from its original 55% through the sale of its shares initiated in 1993,

while in the case of Ghana Bauxite Company, the government reduced its shareholding

from 55% to 20% in 1998.


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2.1.1 Restructuring of Mining Sector Legislation

In response to the cry of investors with respect to the regulation of the mining sector by

pieces of legislative and cumbersome procedures as well as concerns by the international

community in revitalizing the sector, a number of legislative instruments were

promulgated and passed from 1983 (Twerefou et al, 2007).

Notable among the legislative instruments was the PNDC Law 153 – Mining and Minerals

Law, 1986, PNDC Law 218 – Small Scale Mining Law, 1989 and Act 475 – Minerals and

Mining (Amendment) Act, 1994.

With respect to fiscal regimes, the following legislative instruments were promulgated; L.I

1349 – Mineral Royalty Regulation, 1987, Act 592 – Internal Revenue Act, PNDC Law

122 – Additional Profit Tax law, 1985.

A programme was put in place to develop the mining sector support institutions. This was

aimed primarily to;

Develop the capacity of the sector institutions to enable them better regulate

investment in an environmentally friendly manner.

Develop mechanisms to provide productivity and financial viability and

Institute measures to reduce the environmental impacts of small scale mining

operation (Minerals Commission, 1995).

To regulate the activities of the mining firms, other legislative instruments such as PNDCL

219 – Precious Minerals Marketing Corporation law, 1989, PNDCL 154 – Minerals

Commission Act, 1986, L.I 1652 – Environmental Assessment Regulation Act, 1994.


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2.2 Trends in Fiscal Regime

The policy reforms in the mining sector included significant changes in the fiscal

provisions for investments in the mining sector, which have arguably been more generous

to multinational mining companies. Liberalization of the mining sector was to create an

enabling mining environment to attract foreign investment into the sector.

These included a progressive reduction in corporate income tax, from 50-55% in 1975 to

45% in 1986 and further reduced to 35% in 1994 and down to 22% and 25% for 32

companies listed on the Ghana stock exchange and those not listed, respectively. Mineral

royalties which stood at 6% of total value of minerals won in 1975 was reduced to between

3% -12% in 1987 and further down to between 3%- 6% with the enactment of Act 703, in

2006. Other duties such as the 5% mineral duty, 5-35% import duty, and 33- 75% foreign

exchange tax provided for in 1975 and maintained in the investment code of 1981 were

scrapped with the enactment of PNCL 153 and Act 703 of 1986 and 2006 respectively,

while an additional profit tax, designed to capture windfall profits in times high

commodity prices, such as is the case in the gold sector, which was introduced in 1986 was

scrapped in 2006.

In 1975 a decree provided for a modest depreciation regime of 20% in the first year of

investment and 15% for subsequent annual allowance to enable investors to recoup their

initial capital expenditure. The same quantum of depreciation allowance was maintained in

the 1981 code. However, it was increased to 75% for the first year and 50% for subsequent

years in PNDCL 153, 1986. This was again effectively increased to 80% for the first year


16

and 50% in subsequent years by the provisions of the Internal Revenue Act (Act 592) of

2000, which is referenced in the 2006 Minerals and Mining Act. In the same vein, mining

companies were exempted from payment of custom import duties on plant, machinery,

equipment, and accessories imported for use in the mining sector by the provisions of the

1986 and 2006 codes. Staff of mining companies was also exempted from paying income

taxes related to furnished accommodation at mine site. Personal remittance quota for

expatriate‘s personnel was free from tax imposed for the transfer of external currency out

of the country. Act 703 permits the holder of a mining lease to open and retain in an

offshore account, an amount not less than 25% of the foreign exchange for the acquisition

of spare parts, raw materials, and the machinery and equipment; debts servicing and

dividend payment; remittance in respect of quotas for expatriate personnel and the transfer

of capital in the event of a sale or liquidation of the mining operations. In the same vein,

government equity participation which stood at 55-100% in 1975 and 1981 was reduced to

10% in 1986 and same maintain in the 2006 mining act.

The table below summarises the Post and Pre-ERP Mining Sector Fiscal Regime


17

Table 2.0: Pre & Post ERP Mining Sector Fiscal Regime

Source: Akabzaa et al, (2009)

2.3 Taxes

2.3.1 Mineral Royalties

Mineral royalty is a production based tax which is levied on the basis of Article 25 of the

Minerals and Mining Act, 2006; ACT 703 which states that ‗A holder of a mining lease,

restricted mining lease or small scale mining licence shall pay royalty that may be

prescribed in respect of minerals obtained from its mining operations to the Republic,

except that the rate of royalty shall not be more than 6% or less than 3% of the total

revenue of minerals obtained by the holder.‖ Mining Companies are liable to pay royalties

Items SMCD 5 (1975) Act 437

Investment

Code 1981

PNDCL

153 1986

Amend-ments

to law 153

Act 703, 2006

Incentives

Initial capital allowance 20% 20% 75% 75%

Subsequent capital allowance 15% n/a 50% 50%

Investment allowance 5% n/a 5% 5%

Carried forward losses for purposes of n/a n/a Up to 5 Up to 5 years

Off-shore retention of sales n/a n/a 25%-80% 25%-80%

R&D allowance n/a 25% Exempt Exempt

Taxes

Mineral Duty 5-10% 5-10% Exempt Exempt

Import duty 5-35% 5-35% Exempt Exempt

Foreign exchange tax 33-75% 33-75% Exempt Exempt

Import license tax or import levy 10% 10% Exempt Exempt Exempt

Gold export levy $3/Oz for every

oz>100,000

$3/Oz for every

oz>100,000

Exempt Exempt Exempt

Corporate income tax 50-55% 45% 45% 35% 25%, 22%

Royalty 6% 2-6% 3-12% 3-6%

Withholding tax 15% 15% 10% 10%

Capital Gain tax 15% 15% 10% 10%

Additional Profit Tax (APT) n/a n/a 25% 0%

Minimum Turnover tax (National 2.50% 2.50% n/a 2% of before 0%

VAT n/a n/a n/a Exempt Exempt

NHIS n/a n/a n/a Exempt Exempt

Govt. Equity participation in mining lease 55-100% 55-100% 10% 10%


18

immediately they commence mineral production. The percentage (3%-6%) to be applied is

based on the profitability

(defined as the operating ratio, which is the ratio between the operating margin and the

gross value of minerals extracted) of the lease holder‘s operations. The operating margin is

the value of total minerals extracted less the operating cost. The lowest rate of 3% is

payable unless the operating ratio exceeds 30% when it increases progressively up to 6%.

2.3.2 Corporate Income Taxes.

The income tax rate has undergone several changes over the years. The rate used to be

45%. Aside the usual deductions, a company is also allowed to capitalize all expenditure

during reconnaissance, prospecting and development in accordance with the capital

allowance (amortization) provisions of the law. The corporate tax rate in Ghana has been

on a declining rate. The essence is also to attract investors into the country just like the

royalty rate. For instance, the rate which used to be 32.5% in 2001 has declined to 25% by

2006.

As of 2010, mining companies listed on the Ghana Stock Exchange pay on their

chargeable income at a rate of 22%, while those not listed pay 25%.


19

2.3.3 Windfall or additional profits taxes

Windfall taxes, otherwise known as Additional Profits Taxes (APT) are levies

governments employ to collect extra rent generated by mining companies during times of

windfall profits, arising from high mineral prices or discovery of usually high quality

deposits. The 2006 Mineral and Mining Act scrapped the additional profits tax provision in

the 1986 mining code. Many African countries removed the law from their status, because

it remained unapplied for a long time due to sustained period of depressed prices.

However from the year 2002 to 2008, these countries could have mobilized substantial

revenue, from APT if they had maintained the provisions in their tax status. During this

period mining companies across the globe made huge profits, above the average threshold

of 25%, typically required for the application of the tax. The period marked unexpected

steep increases in international prices of gold, copper, particularly, with mining companies

recording annual net return on investment of more than 35% (PriceWaterHouse Coopers,

2007).

2.3.4 Withholding taxes

Withholding taxes are levied on the services provided by non-taxpayers in a given

jurisdiction, paid directly by mining companies to tax authorities. The tax law provides for

withholding tax on dividends paid to shareholders, loan interest, and fees paid to

consultants of between 8% and 15%.


20

2.3.5 Capital Gain Taxes

These taxes are levied on mining plants and equipment which have been disposed of for

amounts above their stipulated book value. Apart from mining plant and equipment,

mineral properties that are sold above their stipulated book value should typically attract

capital gain tax. In Ghana, several mining properties have frequently been disposed

however, according to Boas and Associates (2007), apart from a recent transaction

involving Newmont Ghana Limited and Normandy Plc, for which capital gain taxes were

paid, no mining company paid capital gain taxes. The tax laws provide for capital gain tax

rate of 10% on all such transactions.

2.3.6 Employee Pay Roll Tax (PAYE)

This is tax on emoluments of employees and is not limited to mining. It is however a

significant source of revenue from the mining sector given the relatively higher incomes of

employees of the mining sector. It is largely derived from Ghanaian employees, as

expatriates have been exempted as part of the fiscal incentives to multinational mining

companies. The rate varies according to an individual‘s income level from 0% for those

receiving the minimum wage to a maximum of 25%.


21

2.4 Mining Sector Fiscal Incentives

To attract investment and to reduce the overall tax burden of an enterprise in the mining

sector, tax incentives are designed. They are particularly provided in the mining sector to

make exploration and production of minerals more attractive. According to Akabzaa et al

(2009), these incentives are provided with the purpose of attracting investment to remote

and deprived regions of the country; enhance the performance of the mining sector and

lead to overall maximisation of government revenue and other economic benefits such as

employment or to enhance technology transfer. Tax incentives to the mining sector is

defined by the Minerals and Mining Act, 2006 (Act 703) and the Internal Revenue Act,

2000 (Act 592). These incentives include:

Capital Allowance

Mining companies receive higher rates for capital allowances under the income tax code,

Internal Revenue Act, 2000 (Act 592). For assets like buildings, plant and machinery used

in mining operations, a rate of 80% of the cost base is granted as capital allowance in the

year of acquisition, 50% is further granted on the reducing balance basis in the subsequent

year. In addition, 5% of the cost base of the previous year is added to the written down

value of the immediate succeeding year before any capital allowance is granted for the

year. This means that the investor effectively recoups 105% of any investment in

qualifying mining expenditure, thus ensuring a very short pay-back period. Furthermore,

mining companies are permitted to carry forward unutilised accumulated capital

allowances forever until they are utilised.


22

Carry Forward Losses

This incentive allows losses arising in any tax year to be carried forward for deductions

against income in the subsequent year. It also provides that such losses be deducted within

five years following the year in which the loss is incurred and be ducted in order in which

it was incurred.

Custom Duty Exemptions

Mining companies are exempted from import duties on plant, equipment and accessories

exclusively for the purposes of mining operations. The list of items that are zero rated for

custom duty purposes are typically contained a mining list. Mining companies are however

required to pay exemption fees.

Personal Remittance Quotas for Expatriates

Expatriates are exempt from taxes imposed by an enactment regulating the transfer of

money out of the country. In other words, expatriates in the mining sector can transfer

funds abroad without paying taxes.


23

Double Taxation Reliefs

Large scale mining companies are usually foreign multinational firms operating through

their subsidiaries. These companies are required to pay taxes in Ghana and may be

required to pay in their home countries. This amounts to double taxation. Ghana‘s tax code

provides for relief of double taxation under which companies from countries that have

signed Double Taxation Relief Treaties (DTRT) with Ghana maybe granted this relief.

United Kingdom, South Africa, Italy, Belgium, France are among other countries that have

DTRT with Ghana.

Others include development or investment agreements, transferability of capital, enhanced

immigration quotas, tax free accommodation for mine employees.

2.5 Economic Impact of Fiscal Regimes

2.5.1 Foreign Direct Investment

Foreign Direct Investment (FDI) has been viewed as a major stimulus to economic growth

in developing countries. Its ability to deal with two major obstacles, namely, shortages of

financial resources, and technology and skills, has made it the centre of attention for policy

makers in low-income countries. Ghana has arisen as one of the most attractive destination

of investment largely due to the rich geological data and conducive investment

environment in the mining sector. For example, according to Tsikata (1997), the country

was ranked the third most attractive country for mining investment after Botswana and

Zimbabwe.


24

Source: Ghana Minerals Commission, 2011

0

100

200

300

400

500

600

700

800

900

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

in m

illio

n U

SD

Investment Inflow

The issue of FDI is becoming synonymous with the mining sector in Ghana. This is in

view of the large proportion of total private foreign capital that has been directed into the

sector over the years. Between the mid 1980s and 2005, investment into the sector totalled

well over USD 5 billion with an average inflow of well over USD 200 million. The non-

mining sector recorded accumulated net flows of a little over USD 1.6 billion between

1980 and 2003.

Abdulai (2005) attributed this phenomenon to the benefits the mining sector had received

from financing under the ERP and which had it turn been responding most positively in

terms of output and foreign exchange earnings. The introduction of the new mining

technologies and improved price on international commodity markets coupled with

profitability of the sector played a crucial role in attracting investors into the sector.

Figure 2.0: Total Investment Inflow into the Mining Sector of Ghana


25

Cumulatively, investment inflow into the mining sector from 2000 to 2010 stood at

approximately USD 6.4 billion.

2.5.2 Revenue Performance

The mining sector contributes to government revenue through the payment of direct taxes

such as corporate tax, taxes on wages and salaries of employees, royalties and dividends.

The share of mining in total collections from the Ghana Revenue Authority (GRA)

increased from 8.9% in 1990 to 21.3% in 2010. On the average, mining has accounted for

about 13.3% of the total GRA collection in 2000s.

The mining industry contributes to government revenue through the payment of direct

taxes such as corporate tax, taxes on wages and salaries of employees, royalties and

dividends. In Ghana, direct tax which is mainly administered by the Ghana Revenue

Authority forms between 25-30% of total tax revenue. Data on the contribution of the

mining sector to government revenue in the 1980s are made up of pieces of information,

quite scanty and unreliable at best. However, statistics from the GRA shows that the

mining sector contributed considerably to direct taxes in terms of corporate tax, income

tax, royalties and the introduction of the reconstruction levy. The share of mining in total

GRA collection increased from 8.9 percent in 1990 to 21.3 percent in 2010. On the

average, mining has accounted for about 13.3 percent of the total GRA collection in the

2000s.


26

YEAR

CORPORATE

TAX

MINERAL

ROYALTIES PAYE

RECONSTRUC

TION LEVY

TOTAL

MINING

1990 5.4% 3.6% - - 8.9%

1991 1.3% 4.9% - - 6.3%

1992 0.6% 6.1% - - 6.7%

1993 3.9% 6.6% 2.3% - 12.8%

1994 4.3% 7.7% 2.9% - 14.9%

1995 7.4% 7.6% 2.9% - 17.9%

1996 2.2% 8.4% 4.0% - 14.5%

1997 1.6% 5.7% 4.1% - 11.5%

1998 1.8% 6.3% 3.9% - 12.1%

1999 3.5% 5.4% 3.1% - 11.9%

2000 1.1% 8.4% 4.2% - 13.7%

2001 1.3% 6.5% 3.9% 0.2% 11.9%

2002 0.9% 5.6% 3.7% 1.0% 11.1%

2003 1.8% 5.1% 3.7% 0.4% 11.0%

2004 1.9% 4.0% 2.5% 0.7% 9.1%

2005 4.2% 3.7% 3.0% 0.4% 11.2%

2006 5.5% 4.3% 3.0% 0.2% 10.2%

2007 5.3% 4.5% 3.8% - 13.7%

2008 6.0% 4.8% 3.9% - 14.7%

2009 7.2% 5.2% 6.0% - 18.4%

2010 9.9% 5.9% 5.4% - 21.3%

Source: Ghana Revenue Authority, Minerals Commission of Ghana

The table below shows the percentage shares of mining tax revenues to total GRA

collections.

Table 1.1: Percentage shares of mining tax revenue to total GRA collections.

While royalty payments and Pay As You Earn have increased consistently from 0.75 and

0.26 million Ghana Cedis in 1993 to 144.70 and 132.47 million Ghana Cedis in 2010

respectively, corporate tax does not show a particular pattern in the 1990s but is quite

consistent in the 2000s when it increased from 1.58 million Ghana Cedis in 2000 to 241.58

million Ghana Cedis in 2010.


27

Average annual growth rate the total GRA collections for the period under review amounts

to 36.7 percent whereas that of mining contribution amounts to 47.4 percent, a difference

of 107 basis points.

Another source of revenue to the government is dividend payments. The government of

Ghana holds not less than 10 percent in all mining companies and receives dividends from

the profits made. However, since 2000, the government has not received any dividends

from the mining sector.

2.5.3 Output Trends

Small scale and artisanal mining and medium/large scale mining are the differing

classifications of mining in Ghana. The medium/large scale was mainly state-owned

before the ERP and developed thereafter. However, these large scale mines are now

mainly owned by foreigners with Government of Ghana having a free-carried interest of

10% stake in all of the mines. For example, Ashanti Goldfields has about 82% foreign

ownership.


28

Below is a table of output of minerals in from 1990 to 2010.

Table 2.2: Production of minerals

Year Gold Diamond Bauxite Manganese

(1000 Oz) (1000 Cts) (1000 MT) (1000 MT)

1990 522.5 484.9 381.4 364.4

1991 946.3 702.2 352.9 326.0

1992 1,006.9 596.2 338.2 353.5

1993 1,251.0 584.8 423.7 294.8

1994 1,396.9 746.9 426.1 272.0

1995 1,630.3 627.3 513.0 245.4

1996 1,550.8 714.7 473.2 161.7

1997 1,644.6 698.6 504.4 273.2

1998 2,353.0 823.1 442.5 348.4

1999 2,257.7 680.3 355.3 638.9

2000 2,315.0 627.0 503.8 638.9

2001 2,205.5 870.5 715.5 1,212.3

2002 2,115.2 924.6 647.2 1,132.0

2003 2,208.2 927.0 494.7 1,509.4

2004 1,794.5 911.8 498.1 1,593.8

2005 2,149.4 1,062.9 726.6 1,714.8

2006 2,244.7 970.8 885.8 1,658.7

2007 2,486.8 837.6 748.2 1,156.3

2008 2,586.0 598.0 694.0 1,089.0

2009 2,930.3 354.4 490.4 1,012.9

2010 2,970.1 308.7 512.2 1,194.1

Source: Minerals Commission, Ghana.

On the GDP front, one cannot say Ghana is dependent on the mining sector. This is

because the mining and quarrying subsector contributions to GDP (measured in 1993

constant prices) have increased from 4.8% in 1990 to 5.7% in 1998 to 6.27% in 2009.


29

2.5.4 Export Earnings

According to Aryee (2001), the development of mining up to the late 1990s heightened

investor interest in the activity relative to other major economic sectors. The significance

of minerals as a contributor to the foreign exchange resources of the country is material

with gold as the flagship of the sector, typically accounting for some 95% of all mineral

earnings (Bank of Ghana, 2010). In 1983, total mineral exports accounted for 27.7% of

total exports whiles gold returned 93.76% of total mineral exports. In 1990, the share of

mineral exports in total exports declined to 23.0% whereas the share of gold to total

mineral exports also declined to 83.20. But in 1998, these shares increased to 39.59% and

95.81% respectively. As of 2009, mineral share in total exports was 33.5% whereas gold

exports share of total mineral exports was 97.4%.

Table 2.3: Mineral and Total exports for selected years. (Export value in million

USD)

Year Gold Exports Total Mineral

Exports

Total exports

1983 114.1 121.7 439.0

1990 201.6 185.9 808.2

1998 687.76 717.8 1813.2

2009 2551 2619 7809.4

Source: Bank of Ghana


30

2.6 Measures Adopted to Enhance National Revenue Mobilization

Tax administration effectiveness is necessary to attain the objectives of every reform of the

tax structure. The focus of the tax reforms after 1985 was broadened to include the

enhancement of efficiency of the tax administration and equity of the tax system. The pace

of the tax reforms during this period was also increased and more attention was paid to the

strengthening of private sector incentives. Until 1986, the primary function of tax

administration was facilitating, monitoring taxpayer compliance and preventing non-

compliance had operated very inefficiently.

The CEPS and IRS were unable to plan or carry out reforms to improve revenue

collection. As a major part of the tax reform programme, a considerable number of steps

were taken to strengthen the role of the revenue institutions in achieving the objectives of

increasing revenue and changing the structure of the tax system to make it more efficient

and equitable.

The most dynamic step taken was the conversion of the IRS and CEPS into autonomous

Services with new organizational structures in line with the state-owned enterprises in

1986. At the same time, the remuneration, career path and other human resource issues of

the new structures were reviewed and embodied in a collective work agreement. The

agreement also established new incentive policies including promotion procedures and

training for the staff of the IRS and CEPS. These initiatives were aimed at generating from

within the new organizations the necessary changes to improve productivity, particularly

in the area of tax collection.


31

Between 1986 and 1992, the IRS itself operated with Ministerial powers alongside the

Ministry of Finance. In 1992, this full autonomy was partially reversed, and currently IRS

is headed by a commissioner who reports to the Minister of Finance. The IRS however

continues to have a supervisory control over the collection of revenue in the country. In

terms of the functional reorganization of the revenue institutions, both revenue and

expenditure accounting have been detached from the Treasury and coordinated only by

regular returns submitted by the IRS and CEPS to the Secretariat, the Treasury and the

Central Bank (Terkper, 1994).

To facilitate trade by modernizing operations and clearance procedures at the ports and

harbours, all CEPS offices at the airport and harbours were automated and operating and

processing all imports and some exports through the Ghana Customs Management System

(GCMS).

There was also the introduction of scanning facilities at various points of entry into the

country. This was to ensure proper assessment of volume and content of containers and

packages. Tema and Accra were used as starting points on pilot basis.

The government made efforts to widen the tax net and minimise the incidence of tax

evasion through the review of exemptions and the zero rated items list. The VAT bill was

presented to parliament, completion of preparatory works for the issue of new taxpayers‘

identification numbers and provision for tax courts were example of such efforts. A new

system of collection of tax on lotteries also began in September 1997.

Renovation and rehabilitation works started on offices and residential houses of the

custom‘s administration to enhance administrative effectiveness. Computerization of the


32

Long Room at Tema was duly completed in 1999. A review of clearance procedures by

CEPS was done to reduce multiple state agencies involved in clearing of imports.

Decentralisation of clearing was to reduce unnecessary documentation and CEPS instituted

stiffer penalties for breach of discipline and misconduct among its workers.

The implementation of the WTO agreement on customs valuation and destination

inspection systems of imported goods began on April 1, 2000. Under this system, imports

irrespective of their mode of financing were subjected to destination inspection by

accredited inspection agencies unless specifically exempted by the Minister of Trade and

Industry. Again, there was the introduction of scanning facilities at the various shipping

ports and airports in Tema, Sekondi-Takoradi and Accra on pilot basis for proper

assessment of volume and content of containers and packages.

Work began on GCMS and Ghana community trade network to link major trade and

customs stake holders comprising Ministry of Finance, Ministry of Trade and Industry,

Freight forwarders, Ghana Ports and Highway Authority, Civil Aviation etc to an

information sharing pool, with the view to facilitating automation of custom procedures. A

computerisation of various state warehouses to facilitate easy monitoring was completed in

2000.

The implementation of the uniform Tax Identification Number (TIN) scheme by all

revenue agencies started in 2002. The LTU was created to facilitate the assessment,

processing and audit of the tax liabilities of major tax payers. There was also a reduction in

the period permitted for carrying over accumulated capital allowances, carryover of losses,

disclosure of foreign exchange gains and losses, disclosure of acquisition of depreciable


33

assets and increased investigation by the IRS. The range of goods exempted from import

duty and also those cleared from the ports on concessional terms was narrowed.

To minimise the charges imposed by banks on their customers, it was decided to remove

the Ghana community network (GCNET) processing for on importation of currency notes

by the banks.

The final effort was the integration of the three tax revenue agencies into one revenue

agency. The CEPS, IRS and VATS and the Revenue Agencies Governing Board (RAGB)

Secretariat were merged in accordance with Ghana Revenue Authority Act 2009, Act 791.

The GRA thus replaced the revenue agencies in the administration of taxes and customs

duties in the country. Its establishment was a culmination of years of plans to streamline

the administration of tax collection in Ghana which began in 1986.

2.7 Conclusion

The above observations show a particular trend of growth in the mining sector of Ghana. It

is also obvious that the Ghana Revenue Agency has come a long way to ensuring revenue

administration is effective. The fiscal trend of the mining sector also gives in-depth

knowledge on how and why the tax reforms were initiated.


34

CHAPTER THREE

REVIEW OF LITERATURE

3.0 Introduction

This chapter addresses an overview of theoretical and empirical literature on tax reforms

and revenue productivity with its related issues. The section also looks at the theory of

optimal taxation and defines the importance of tax buoyancy and elasticity. The section on

empirical literature looks at the different methods that have been used to estimate tax

buoyancy and elasticity by different researchers. Lessons from empirical literature are also

discussed.

3.1 Role of Taxation

It is only appropriate that a discussion of issues in tax reforms should begin with an

assessment of the role of taxation as a macroeconomic tool. In the past, tax systems were

used in developing countries to serve multiple objectives. These included, in addition to

mobilization of resources to finance government expenditure, promoting savings and

investment, inducing savings in particular forms to facilitate the process of channelling

savings into investment, directing investment into desirable activities, bringing about

greater equity in the distribution of income and correcting externalities. Taxation was

viewed as a powerful policy instrument to serve the dual role of securing resource transfers


35

to the public sector for application to planned uses and inducing the private sector to

operate in conformity with planned objectives (Islam, 2001).

Over the last three decades however, the view that has gained wide acceptance is that the

tax system should be assigned a much narrower role, i.e., it should focus on raising

revenue. According to the IMF, taxation creates distortions and the main object of tax

policy is to design a system that raises enough revenue to meet a government‘s revenue

target while minimizing the level of associated distortions (Mackenzie et al, 1997).

3.2 Theoretical aspects of tax reforms

Governments that embark on tax reforms aim to achieve many goals. Raising the

productivity of the tax system is one of the most important. To facilitate compliance and

collection, a tax system must be administratively feasible. In other words, it should be

simple for the same reason but also as an aim in itself, it must spread its burden equitably

to avoid misallocation of resources. It must not also upset the pattern of production, trade,

consumption, savings and investment. This justifies the assertion that tax reforms are

simply a matter of trade offs as the aims outlined above cannot be satisfied simultaneously.

Most countries that have embarked on tax reforms have aimed at raising productivity of

the tax system. UtunWai (1962) argues that tax revenue is very important because in the

long run revenue cannot lag behind expenditure. So unless public expenditure is expected

to grow at the same rate as national income, the government should ideally choose tax

bases that will expand proportionately with spending not GDP.


36

According to Mansfield (1972), the success of tax reforms in raising revenue productivity

can be evaluated by looking at the buoyancy and elasticity of the tax system. Buoyancy

measures the automatic effects of discretionary changes in the tax system to changes in

income whereas elasticity is built in responsiveness of tax revenue to movements in

national income abstracting from the effects of discretionary changes in tax system.

Choudhry (1979) complements the work of Mansfield (1972) by suggesting that the size of

buoyancy and elasticity is influenced by many factors. Firstly, the composition of bases

influences the size of elasticity and buoyancy of a tax system. Some components of the tax

base may be primarily responsible for lowering or raising the overall buoyancy and the

elasticity of tax revenue. Secondly, the progressive elements in the tax system also

influence the size of the elasticity. When per capita income rises the whole population

moves up in the income scale, those who were paying taxes either directly or indirectly

will pay larger taxes and some of those who were below the exemption level of income

will start paying. The progressive element in the tax system also gives it some degree of

built-in protection against inflation. When prices rise, money incomes increases and the

tax system cause the government revenue to increase at least with national income and

very rapidly if the system is sufficiently progressive. Thirdly, better tax administration and

prevention of evasion and avoidance as well as elements of tax policy such as using ad-

valorem rates to increase revenue as the value of the base rises, influences the size of

elasticity and buoyancy.

The size of elasticities and buoyancies are believed to be affected by other factors which

are not considered explicitly (Wilford, 1978). For instance if the government spends most


37

of its revenue on defence or something from which the recipients does not consider he

derives an income, there will no longer be income effects on tax revenue.

The distribution of income also influences the size of the elasticities, for example if there

is a shift of income towards higher income groups and the tax system is progressive, the

size of buoyancy and elasticity will increase.

In addition, the industrial origin of output influences the size of elasticity and buoyancy.

As the share of manufactured output as a ratio of GDP increase tax revenue increases

because it is easy manufactured output since there will be few centres (factories) to collect

the tax.

Inflation is also another factor that influences the size of elasticity and buoyancy because it

pushes people into higher tax brackets and tends to overstate company profits and incomes

of individuals.

Studies by Bryne (1983), Baas (1974) and Tanzi (1988) show that discretional measures

(legislative enactment, improvement in tax administration, changes in tax rates and bases,

etc) and economic growth affect one or more of the factors that influence the buoyancy.

The effect of such factors on buoyancy is in turn felt in the tax ratio (tax revenue relative

to GDP).


38

3.2.1 Tax Reform and Optimal Taxation

The literature on tax reform has been growing rapidly suggesting the theoretical and

practical importance of the subject. Interestingly most of the literature has been more

descriptive than analytical. The techniques applied to evaluating success or failures of tax

reforms are not well documented. Normally the analysis of tax reform has tended to focus

on evaluating the objectives of those reforms: revenue adequacy, economic efficiency,

equity and simplicity. According to McMahon and Berrios (1991), the need for tax reform

arises from the deficiency of the existing tax system in achieving these objectives.

Revenue adequacy is the basic elementary standard that a tax system ought to achieve. The

existing budget deficits in many developing countries like Ghana seem to suggest that the

tax systems are not revenue productive. Some may overlook this and attribute the cause of

deficits to excessive spending, or temporarily adverse economic conditions. In situation

where budget deficits persist for long periods increased revenue should be the main

objective of tax reform. Obviously, this is bound to depend on the circumstances of each

country. Certainly, few, if any, developing countries can afford to adopt tax reforms, no

matter how desirable they might be on other grounds, if they lead to substantial revenue

losses. Goode (1987) argues that it is hard to gain serious consideration for any revenue-

neutral reform proposal. By and large, in Africa most governments consider revenue gain

as the primary motive for tax reform.

Optimal tax theory still has a significant influence on academic research in tax reform.

Newberry and Stern (1987) applied a normative framework to analyze a tax reform

process. The optimal taxation approach emphasizes the need to analyse the impact of tax


39

reform and evaluate both its administrative costs and its effect on social welfare. This

framework has been criticised for its inability to identify the real practical needs of tax

reform in developing countries. Its first major shortcoming is that it requires substantial

data, which are scarce or non-existent in many developing countries.

Secondly optimal taxation has assumed the existence of perfect administration. However,

recent reform experiences have revealed a serious lack of administration capacity in

virtually all developing countries, showing the need for simpler administrative structures.

The impact of optimal taxation on tax reform in developing countries has been small and

indirect because of this deficiency (Gillis, 1989). In addition, under the optimal taxation

approach the analysis of revenue productivity of a tax would be of less significance.

The theories of optimal taxation are analogous to the examination of the principles of

taxation, where lump-sum taxes are impossible. The analysis of optimal commodity

taxation began with Ramsey (1927) but the subject expanded in the 1970s following

Diamond-Mirrelees papers of 1971.

The general principles of optimal taxation can be summarized as follows:

Tax revenue is raised most efficiently by taxing goods or factors with inelastic

demand or supply and

Taxation concerned with distribution and with externalities or market failures

should as much as possible address the problem.

Thus for distribution, one should look for the sources of inequality and should concentrate

taxation there. In the case of externalities, one should attempt to tax (in the case of


40

negative externality) or to subsidize (in the case of positive externality) directly the good

or activity that produces the externality (Stern, 1988).

In cases where equity and efficiency must be balanced, as in the design of direct and

indirect taxes on consumers, the tax rates will depend on the exact form of the social

welfare function (Newbery, 1988).

By ‗tax reform‘, we mean a movement away from some given status quo. According to the

general theory of tax reform, it will be beneficial to switch taxation at the margin from i to

j, if the marginal cost of tax i exceeds that of tax j. More generally, a tax reform is

beneficial if it increases both revenue and social welfare.

In relation to shadow prices, a tax should be increased if the direct impact on households

of making the change exceeds the cost at shadow prices of the extra demand generated.

The shadow price of a good embodies the welfare consequences of the general equilibrium

adjustments that flow from an extra demand for that good. Thus the shadow price depends

on the way in which the economy adjusts (Stern, 1988).

Although the reform suggested by optimal taxation are based upon rigorous economic

theory as Thirsk (1995), Deaton (1988) and McClure (1989) emphasized, putting them into

operation leads to as intractably large number of rates, which would be difficult to

calculate and infeasible to administer effectively. Slemrod (1990) has argued that the

optimal tax theory can serve as a guide to designing ‗optimal tax systems‘ only if one

considers the technology of tax collection, i.e., the feasibility of tax instruments, the cost

of administration and compliance.


41

According Thirsk (1995), despite flirtation with the undeniable logic of optimal tax theory,

many tax reforms have focused on achieving broader based taxation at more uniform rates.

Unlike the earlier pleas for broader based taxation, which called for greater progressivity,

the current appeals are for lower marginal tax rates and reductions in the level of tax-

induced distortions that are prompted by high rates.

According to Chhibberet al (1988), experience with growth-oriented adjustments

programmes in developing countries indicates that tax reform is an essential component of

any comprehensive strategy for structural adjustment and resumption of growth.

As Musgrave (1988) had pointed out, however, tax reform in developing countries

involves broad issues of economic policy as well as specific problems of tax structure

design and administration.

First, there are the central problems of revenue requirements and how to fit the revenue

structure into development policy. This area of concern includes the impact of alternative

taxes on saving and investment and their implications for the macro balance (domestic and

foreign) of the economy.

Second, there is the important goal of securing a fair distribution of the tax burden. Among

the more specific tax issues, attention needs to be given to the composition of the tax

structure as well as the design of its major components. The problem throughout is not

simply to determine what would be desirable but also to assess what is administratively

practicable and within the ballpark of political feasibility.


42

According to Kusi (1998), a common feature of the tax structures in most developing

countries is that they are complex (difficult to administer and comply with), inelastic (non-

responsive to growth and discretionary policy measures), inefficient (raise little revenue

but introduce serious economic distortions), inequitable (treat individuals and businesses

in similar circumstances differently) and unfair (tax administration and enforcement are

selective and skewed in favour of those with the resources to defeat the system). There is a

heavy reliance on taxes on international trade, which undermines long-term international

competiveness. User charges and taxes on income and property contribute only a small

proportion of total revenues. Agricultural income, fringe benefits, wealth bequests, land

and property exist in theory but have rendered ineffective by design problems or the lack

of administration, or both, while personal and corporate income taxes are levied on narrow

bases at high rates. Sales taxes are levied in a cascading manner, thereby pyramiding and

in some cases, more than hundred percent full forward shifting (Khalilzadeh-Shirazi and

Shah, 1995; Bird, 1995; Shalizi and Squire, 1988).

Faced with mounting budget deficits and having to cut expenditures as far as is prudently

possible, particularly on public investment and social spending, a number of developing

countries have undertaken to restructure their system of taxation to seek higher revenue or

improve the revenue elasticity and buoyancy of the tax system. Other goals of these reform

processes have been to eliminate the disincentive effects of the levels of taxation; to reduce

the economic inefficiencies induced by the distortionary taxation of assets and sectors; to

protect the poorest of the poor from the tax net; and to provide partial relief from the

unwelcome effects of inflation (Khalilzadeh-Shirazi and Shah, 1995). Thus revenue


43

enhancement, economic efficiency, horizontal equity and simplicity issues have dominated

the world agenda on tax reform.

Despite the wave of tax reforms over the globe, and the remarkable similarity in the broad

directions of the reforms, a number of unresolved and controversial issues remain. For

example, vertical equity and international income taxation have received only scanty

attention in many tax reforms. Emphasis on redistributive role of the tax system is

gradually waning - a direct consequence of the fact that tax evasion is so pervasive. The

proper role of progressive income taxation is an extensively debated issue, as is the

question of whether personal income tax should have fewer brackets and rates on account

of simplicity. Although progressivity remains high on the political agenda in theory, often

the political will to enforce income tax compliance (expenditure) or cash-flow taxes,

perplexing philosophical and transitional issues continue to dominate current discussions.

Vertical equity is increasingly being perceived as an elusive goal and therefore is being

assigned a lower order of priority in tax reform. All recent attempts at tax reform have

curtailed tax preferences, especially for investment, but some economists argue that certain

incentives, such as investment tax credit, are desirable because they lower user cost of

(new) capital, thereby encouraging greater capital formation.

3.2.2 Measuring Tax Revenue Productivity

Hindrichs (1966) and Musgrave (1969) expressed the need or the importance of ―tax

handle‖ in determining ―tax efforts‖. The four (4) main approaches to assess the tax


44

performance of a country are (i) ―ability to give up approach‖, (ii) ―efficient resource use

approach‖, (iii) ―ability to collect approach‖ and (iv) ―comparison with average

performance approach‖ which is known as the ―stochastic approach‖ Musgrave (1969).

The commonly used approach for measuring tax effort; is to regress the tax ratio on a set

of variables that serves as proxies for ―tax handles‖ of a country. The set of variables

include the major determinants of output in a country (Bahl, 1971) and (Chelliah, 1971).

This can be expressed in a functional form as: T/Y=f(V), where, T is the tax revenue, Y is

the GDP or GNP, T/Y is the tax ratio and V is the vector of ‗tax handles‘. The equation

provides an average relationship between the tax ratio and the set of explanatory variables

chosen. For example in an IMF study, the tax ratio (T/Y) was regressed on per capita non-

export GNP (in U.S Dollars), export ratio including mineral exports, and the share of

mining in GDP. The predicted tax ratio therefore gives the ratio that the country would

have if it had made the average tax effort. Thus it becomes a measure of the taxable

capacity of the country while the regression coefficients act as the ‗average‘ effective rates

on the base. According to Bird (1976), the successful measurement of taxable capacity

used in studies depends critically on the a priori justification of the explanatory variables

as affecting only taxable capacity and not at all either demands for higher public

expenditures or willingness to tax.

Another method of assessing tax performance is via tax buoyancy and elasticity. The

buoyancy of tax can be estimated in two ways: (i) by calculating the ratio of percentage

change in tax revenue to percentage change in national income/GDP, or (ii) by a

regression of the tax revenue on the tax base (e.g. national income/GDP) after taking the

natural logarithm for each of them. It measures the relationship between the proportional


45

change in tax revenue and those of the tax base and therefore, gives a quantitative measure

of the effectiveness of tax policy in terms of stimulating public resources (Teera, 2002).

The tax effort approach to measuring tax performance is termed ―static‖ since it gives the

potential for tax increase in a country at a given point of time through comparisons with

other countries. However, in order to determine if a country has made efforts at increasing

tax revenue over a period, tax performance in the dynamic sense is important to know. The

tax buoyancy provides such a dynamic index of tax performance, which measures the

sensitivity and response of the tax system with respect to income/GDP.The buoyancy of a

tax system reflects the total response of tax revenue to changes in national income as well

as discretionary changes in tax policies over time.

The elasticity of a tax system though closely related to buoyancy measures the

responsiveness of tax revenue to changes in national income abstracting from discretionary

changes in the tax structure. Hence, in estimating the elasticity of the tax system, one must

correct for effects of discretionary changes in tax policy on historical tax revenue series. It

is important to obtain both the buoyancy and elasticity of the tax system because the

responsiveness of tax revenue to changes in Gross Domestic Product (GDP) is of two

types: the automatic response to GDP changes, and the response resulting from

discretionary changes in tax rates, tax base and tax legislation. The combined effect of the

two is known as the buoyancy of a tax. Buoyancy is measured by generally estimating the

responsiveness of tax revenue to changes in income or output without taking into account

discretionary changes in tax policy. According to Mansfield (1972) and Osoro (1993), the

traditional method of measuring tax buoyancy starts with the following model:

from which the double log function is derived, where T is


46

historical tax revenue, Y is GDP, and β is the estimated buoyancy, α is the constant term

and Ɛ is a stochastic disturbance term. Tax elasticity is measured in the similar way as

buoyancy with the exception that in elasticity estimation discretionary changes in the tax

policy are taken into account.

Discretionary changes in the tax policy include changes in the tax rate and/or base;

changes in the efficiency of tax administration; the introduction of new taxes and the

abolition of some others. This therefore means that historical tax revenue series have to be

refined by adjusting them to exclude revenue changes attributable to discretionary

measures.

Estimating the income tax elasticity is useful for displaying the extent to which tax system

is responsive to changes in the tax composition and the value of GDP (Teera, 2002). When

the elasticity of major revenue sources remains low despite tax reforms either due to low

base, or evasion or avoidance, the government raises additional resources through

discretionary measures. Then, the growth of tax revenue comes through high buoyancy

rather than through elasticity. The coefficient of elasticity depends on the level of tax base

to changes in income. This makes it possible to break up the value of elasticity into two

components: the response of the tax base to a change in income, and the response of tax

yield to a change in the tax base of individual taxes through decomposition of elasticity

(Musgrave, 1969). The value of base-to-income elasticity does not depend on the

progressivity of tax rates; it simply relates the responsiveness of the tax-base to a change

in income. The growth of the base depends on the way the structure of the economy

changes with economic growth. The tax-to-base elasticity depends on the tax rate; if the

rate structure is progressive or if there is an improvement in tax administration; the tax-to-


47

base elasticity will be raised by preventing evasion. The decomposition of elasticity in this

manner permits us to identify the source of growth of tax revenues.

The major methods used include proportional adjustment methods (Baas and Duxin,

1972),(Mansfield, 1972), (Osoro, 1993), (Kusi, 1998), constant rate structure (Choudhry,

1975), (Tanzi, 1976), dummy variable technique (Wilford, 1998), (Hyuha and Dumba,

1993) and the divisia index (Choudhry, 1979). However, a complete adjustment of

historical revenue series is not possible in any of the methods.

The first method (Proportional Adjustment) requires the use of budget estimates of tax

yields resulting from discretionary changes. Not only are such data difficult to obtain, their

reliability is questionable as the actual discretionary outcomes may differ significantly

from the changes proposed in the budget. The data on discretionary revenues provided by

the Revenue Agencies are not only incomplete but suffer from these two limitations

among others. Firstly, some of the measures proposed at the time of budget-making were

never implemented, and therefore the financial effect could be different than reported in

the data provided. Secondly, the calculation of financial effect of tax measures is based on

the ‗static‘ model rather than dynamic, therefore ex-ante and ex-post differential can exist.

Proportional adjustment method involves subtracting budget estimates of tax yield owing

to discretionary changes form the actual yield. Multiplying it by a sequence of

multiplicative factors then further refines the adjusted revenue data.

The second method (constant rate structure), is not used very commonly because it places

heavy demands on the availability of data, for instance it requires data on effective tax

rates and the changing composition of availability of data (Anderson, 1973). Provided


48

these data are available and both the tax and its base are defined narrowly enough to

permit application of the reference year rates to later year tax bases, this method generates

the most accurate revenue series. However, such data are hard to come by particularly in

the less developed countries. Another limitation of this method is that, the elasticities of

individual taxes and the overall tax system estimated by using this method as an

adjustment technique depends on the variation of bases with respect to GDP

The dummy variable method does not require the use of disaggregated data on taxes, but it

cannot be used properly when discretionary tax changes are quite frequent in the past.

Furthermore, even if the discretionary changes are not very many, the specification of the

estimation equations can be problematic unless there is information on the nature of the tax

changes and the extent to which their effects are independent of one another. The dummy

variable technique involves introducing a dummy variable for each exogenous variable

that significantly influences revenue generation. However, this method is not appropriate

when discretionary changes have been made more frequently in the past.

The Divisia Index method uses only historic data and does not require the collection of

specific information on revenue effects of discretionary tax changes, or on the frequency

of past discretionary tax changes. According to Gillani (1986), the Divisia index approach

of measuring the revenue effects of discretionary is widely used for measuring technical

change and isolating the effect of exogenous factor on a variable. This method is expected

to provide a reasonable measure of the effects of discretionary changes especially when

information on revenue effects of discretionary changes is not available. However, apart

from the questionability of using time trends as proxies for discretionary measures, this

approach leads to over or under estimation depending on whether discretionary changes


49

produce positive or negative income effect. The use of divisia index also does not allow

the estimation of elasticities of components of tax revenue because it is assumed that each

base represents its own tax category (Choundry, 1979). However, two caveats may be

noted: first, it may underestimate or over-estimate the revenue effects of discretionary tax

change; and secondly, in case of large revenue effects, it may give unsatisfactory results.

3.3 Tax Types

This section reviews theoretical underpinnings of mining sector taxes considered in this

study.

3.3.1 Royalties

According to Cairns (1985), royalty is a payment exacted by the owner of a resource. Most

governments of natural resource endowed economies have used the royalty system to

mobilise revenue from natural resource operating companies. Royalties are an attractive

source of revenue to the government because they are easier to administer than many other

fiscal instruments (Sunley and Baunsgaard, 2001). Moreover, royalties ensure that

companies make a minimum payment for the minerals they extract. Otto (2000) asserts

that over the past century, there has been a trend to de-emphasize tax systems based on

royalties and to switch to tax mechanisms that are profit based. However, many nations

still retain royalty taxes. Royalty taxes can be in various forms; revenue based, profit

based, unit of production, or an ad-valorem basis (Sarma and Naresh, 2001).


50

For the case of unit of production, the base of the tax is the quantity produced which is

easy to check. In other words, a unit royalty is a levy applied to the per unit volume of

production. In the case of ad-valorem type, on the other hand, the tax is imposed based on

the price of the mineral. Strictly speaking, the ad-valorem tax is imposed on the value of

the oil or mineral extracted. However, when the true market price is not known, some

formula(e) can be used for determining the value for tax purposes from the quantity

produced (Sunley et al, 2002).

Revenue based royalty approach tax revenue with no account for costs of production.

According to Emerson and Lloyd (1983), revenue based royalty system discourages

production in the natural resources sector. In other words, since royalties tend to raise the

marginal cost of extracting mineral ores, they can deter investors if imposed at high levels.

As a result, the sliding scale royalty has been introduced to help reduce distortions in

mineral exploration. In line with the sliding scale, the R-factor is used to make allowances

for costs when levying royalty. It is calculated by multiplying the royalty rate by the value

of mineral at the valuation point which takes into account all cost and revenue of the

project to the day of calculation. Mathematically, R = X/Y, where X and Y are the

cumulative revenue and cumulative expenditure respectively (Quiroz, 2003).

According to Sinner et al (2005), profit-based royalty system is a mechanism whereby the

resource owner receives a share of the profits once all significant costs have been

recovered.


51

3.3.2 Company Income Tax

Company tax is a tax levied on the profits of all companies and it is calculated after

interest and all revenue allowances such as capital allowances have been catered for, but

before dividend distribution (Bannock et al, 1998). In most economies, company income

tax treats mining sectors companies more favourably than other sectors. The intention is to

attract investment into the natural resources sector. For example, minerals require huge

capital outlay for their extraction. Therefore, to attract investment, the tax system applied

must be more favourable (Otto, 2000). This has led to many countries including Ghana, to

allow exploration and development costs to be deducted for taxes purposes in the mining

industry.

Corporate income tax many comprise the basic rate structure, depreciation tax,

supplementary levies, tax incentives and withholding provisions (Sarma and Naresh,

2000). Various governments also allow for accelerated depreciation allowances as a way

of promoting the development of the mining industry. There are many approaches to the

calculation of the annual value of depreciation including the straight line method, reducing

balance method, sum of the years digit, annual capital charge. Overall corporate income

tax rates in several countries ranges from 25% to 35%.


52

3.3.3 Export and Import Taxes

Because of the capital intensive nature of the mining sector, most countries exclude the

industry from paying import duties. This is done to promote investor confidence into the

sector. Again, most mining companies depend on imported equipment for exploration,

development and operational activities. One major setback of the import tax is that most

governments have observed that it directly and negatively impacts on the competitiveness

of their mining industries on the global market. In Indonesia, import duty on foreign

equipment is excluded for the first ten years, and then capital equipment and spare are

taxed at around 20%. Chile, Kazakhstan and Mexico impose 10%, 11% and 20% of import

tax respectively. Export duties are imposed on raw minerals. In addition to acting as a

general revenue raising device, export duty is used as a means to encourage value addition

to the raw material produced. With increased global competition, most nations have zero

rated export duties on minerals regardless of the degree of processing, (Otto, 2000).

Ghana‘s mineral industry for example is exempt from import duties (but for a large mine

there may be exceptions) and export duties are zero-rated.

3.4 Empirical Literature Review

The theoretical and practical importance of tax reforms attracted the attention of several

researchers. This resulted in studies being carried out to examine the effect of discretionary

changes on revenue productivity. A review of the empirical literature below is organized


53

on the basis of method used in adjusting tax revenues in trying to draw lessons for the

present study.

Few studies have been undertaken using the Divisia Index approach. The work of

Choudhry (1979) is particularly appealing as the impact of discretionary changes on

revenue productivity in USA, UK, Malaysia and Kenya was his focal point of empirical

inquiry. The empirical results indicate that the estimated elasticities and buoyancies differ

considerably between and within pairs of developed and developing countries. The

estimates for the USA and UK were smaller than those for Malaysia and Kenya. The

estimated buoyancy for USA was 1.04, UK 1.18, Malaysia 1.7 and Kenya was 1.42, also

the estimates of elasticity ranges from a lowest of 1.04 for the USA to high of 1.57 for

Malaysia. This suggests that developing countries, which are experiencing growth, exhibit

a more growth elastic revenue base than the developed countries. The findings of this

study show that the discretionary tax measures generated additional tax revenue. Gillani

(1986) also used the Divisia Index method to estimate the elasticity and buoyancies of

federal taxes in Pakistan for 1971-72 to 1982-83. The long run estimates were an elasticity

of 1.26 and buoyancy of 1.17. Short run estimates were however 0.83 for elasticity and

0.74 for buoyancy. Results of the study showed high elasticity coefficients for all taxes

except for export taxes.

Several authors have used proportional adjustment technique to adjust tax revenue. In this

regard, the work by Baas and Dixon (1972) is revealing. One point that emanated from this

study on U.K tax system was that although the discretionary measures reduce tax revenue,

they improved the progressivity of the individual income tax system. Their statistical

results indicate that individual income tax had a buoyancy of 1.02 and 1.42 for the period


54

1950/51-1970/71 and 1960/61-1970/71 respectively, while the elasticity estimates were

1.37 and 1.53 in the same periods. In another study, Mansfield (1972) indicates that the

size of both buoyancy and elasticity were favourably influenced by relatively high base to

income elasticity of major taxes. Other authors like Rao and Katsande (1985), Osoro

(1993) and Bryne (1983), reveal in their studies that discretionary changes generated

additional revenue.

Other authors employed the dummy variable technique. In this respect, the work by

Wilford (1978) points to the fact that tax reforms greatly influenced the tax systems of

Central America. The work of Hyuha and Dumba (1993) also points to the same findings.

Dummy variable technique which they employed to estimate elasticity was not appropriate

because of the many discretionary changes that took place in different years during the

study period.

Osoro (1993) examined the revenue productivity implications of tax reforms in Tanzania

for the period 1979 to 1989. In the study, the tax buoyancy was estimated using double

log form equation and tax revenue elasticity using the proportional adjustment method.

The result gave an overall elasticity of 0.76 with buoyancy of 1.06. The study concluded

that the tax reforms in Tanzania had failed to raise tax revenues. These results were

attributed to the government granting numerous tax exemptions and poor tax

administration within the sample period.

In another study, (Osoro, 1995) used the Prest (1962) method to estimate the individual

tax elasticity and that of the overall tax system in 1970-1980.He found that the elasticity

of the overall tax system declined from 0.85 in 1970 to 0.782 in 1980. Income tax and


55

Sales tax, which were elastic in 1970‘s, became inelastic in the 1980‘s. Import duty,

which was inelastic in the 1970s, became elastic in 1980s. He attributed these changes to

reduction in import duty rates and a rise in imports, rapid changes in tax base, stemming

from steep exchange rate depreciation.

Ariyo (1997) evaluated the productivity of the Nigerian tax system for the period 1970-

1990. The aim was to devise a reasonable accurate estimation of Nigeria‘s sustainable

revenue profile. In the study, tax buoyancy and tax revenue elasticity were estimated

using the double log form and the proportional adjustment method respectively. The slope

dummy equations were used for the oil boom and Structural Adjustment Programmes.

The study revealed an overall satisfactory tax productivity level but wide variations in the

level of tax revenue by various tax sources. The variations were attributed to the laxity in

administration of non-oil tax sources during the oil boom periods. The study further

asserted that there was need to improve the tax information system to enhance the

evaluation of its performance and facilitate adequate macro-economic planning and

implementation.

Chipeta (1998) evaluated effects of tax reforms on tax yields in Malawi for the period

1970 to 1994. The results indicated buoyancy of 0.95 and an elasticity of 0.6. The study

concluded that the tax bases had grown less rapidly than GDP.

Muriithi and Moyi (2003) applied the concepts of tax buoyancy and elasticity to

determine whether the tax reforms in Kenya achieved the objective of creating tax policies

that made yield of individual taxes responsive to changes in national income. They used

the double log equation to estimate the responsiveness of tax yield on income. The results


56

showed that tax reforms had a positive impact on the overall tax structure and on

individual tax handles. The study concluded that despite the positive impact, the reforms

failed to make VAT responsive to changes in income. The difficulty here that VAT had

been around for eleven years only and subjecting it alone in a regression model did not

make statistical sense.

Milton Ayoki, MariosOwona and Moses Ogwapus (2005) researched on tax reforms and

domestic revenue mobilization in Uganda by using the proportional adjustment method.

Their findings revealed that the reforms had a positive impact on direct taxes as tax-to-

income elasticity index grew from 0.706 to 2.082 after the reforms whiles direct taxes also

moved from 1.037 to 1.306. They concluded that the reform was necessary to the

economy but there was room for improvement.

Suliman (2005) used the dummy variable method to look at the impact of trade

liberalization on revenue mobilization and stability in Sudan. The result shows that, the

tax system as a whole is not buoyant or elastic and the same results were obtained for the

major tax handles. Overall elasticity was inelastic with an index of 0.82 whiles the

elasticities of the individual taxes were divergent with the following indexes: import duty

(0.83), excise tax (0.82), income tax (1.26) and profit tax (1.57). The conclusion was less

buoyant and elastic system provides an explanation for the low tax efforts and the

relatively low and declining government spending.

FaizBilquees (2004) studied the Elasticity and Buoyancy of the Tax System in Pakistan by

using the Divisia Index method over the 1974/75 to 2003/04 period. The results gave a

total tax buoyancy and elasticity after the reform as 0.92 and 0.88 respectively and


57

concluded that, overall the use of discretionary tax measures has been relied upon

significantly as a source of revenue augmentation in Pakistan.

In Ghana, Kusi (1998) studied tax reform and revenue productivity of Ghana for the

period 1970 to 1993. Results showed a pre-reform buoyancy of 0.72 and elasticity of 0.71

for the period 1970 to 1982. The period after reform, 1983 to 1993, showed increased

buoyancy of 1.29 and elasticity of 1.22. The low buoyancy and elasticity during the pre-

reform period was attributed to smuggling, unrecorded trade, tax evasion and laxity in tax

collection. The results also showed that income tax had the lowest elasticity and therefore

he recommended that authorities should move away from income based taxes in favour of

consumption taxation. The study concluded that the reforms had contributed significantly

to tax revenue productivity from 1983 to 1993.

Brafu-Insaidoo and Obeng (2008) studied the effect of import liberalization on Tariff

revenue in Ghana for the period 1966 to 2003. The study adopted the Singer (1968)

approach to estimate the duty buoyancy and elasticity for the study period and the

following results were obtained: for the entire period 1966-2003, buoyancy was 0.556 and

elasticity was 0.282, the period before import liberalization (19965-1982), gave buoyancy

of 0.33 and elasticity of 0.814, and for the period after the import liberalization (1983-

2003), buoyancy was 0.313 and elasticity was 0.049. A comparison of the results indicates

that duty buoyancy outweighed duty elasticity for the entire study period, meaning that

discretionary tax measures (DTMs) have improved tariff revenue mobilization over the

period. Overall evidence obtained however indicates that import tax is neither buoyant nor

elastic in Ghana, so the study suggestedthat a lot needs to be done to improve efficiency in

the customs collection administration system.


58

Twerefou, Fumey, Osei-Assibey and Asmah (2010) adopted the Dummy Variables

Approach to correct for the effects of Discretionary Tax Measures. Their findings

revealed that the overall tax system in Ghana was buoyant and elastic in the long run and

buoyancy exceeded the elasticity, but in the short run the reverse was the case. They

observed an improvement in both buoyancy and elasticity over the reform period (1985-

2007) as evidenced in pre-reform buoyancy and elasticity coefficient which were

generally less than unity but became greater than one after the reform. Overall tax

elasticity was estimated to be about 1.03, suggesting that the responsiveness of the tax

system to a unit change in GDP was more than unity.

This study differs from the previous studies conducted in Ghana in the sense that all the

earlier studies considered nationwide revenue productivity of the tax system. This study

seeks to measure the revenue productivity of a specific sector in the country. Elsewhere,

this study uses the dummy variable approach to measuring the tax buoyancy and elasticity

of the mining tax system.


59

Author Coverage Methodology Major Findings

Osoro (1993) Tanzania, 1979-1989 Proportional Adjustment Tax reforms failed to raise the tax revenues attributable to

numerous tax exemptions and poor tax administration

Moyi and Muriithi (2003) Kenya, 1973-1999 Proportional Adjustment Tax reform had positive impact on the overall tax structure and

on the individual tax handles

Bilquess (2004) Pakistan, 1974-2003 Divisia Index Use of discretionary tax measures has been relied upon

significantly as a source of revenue augmentation

Kargbo (2010) Sierra Leone 3SLS and Divisia Index Discretionary measures are statistically significant and that tax

reforms failed to increase the productivity of the tax system.

Agriculture and mining have negative impacts on tax revenue

sharesBaas and Dixon (1972) U.K, 1950-1971 Proportional Adjustment Discretionary measures reduced tax revenue but improved

progressivity of the individual tax system.

Ariyo (1997) Nigeria, 1970-1990 Proportional Adjustment Satisfactory tax productivity level but wide variations in the

level of tax revenue by various tax sources

Ayoki et al (2005) Uganda Proportional Adjustment Tax reform had a positive impact on direct taxes

Twerefou et al (2010) Ghana, 1985-2007 Dummy Variable Overall tax system is income elastic in the long run

Source: Author's own compilation

Table 2.4: Summary of Some Key Empirical Studies

3.4 Problems with tax reform

One problem of tax reform derives from the existence of an initial allocation. Though a

new tax system may be more efficient and more equitable than the existing one, the

transition from old to new may cause a redistribution of resources to occur than in itself is

undesirable. For example, it has often been suggested in the U.S. that the tax subsidy for

state and municipal bonds be removed. If this were done unexpectedly, it would cause a

capital loss for the holders of such bonds, but not for other, otherwise identical individuals.

Such treatment may be thought of as a violation of horizontal equity (Feldstein, 1976)


60

which may be explicitly accounted for in an expanded social welfare function (King,

1982). This problem undoubtedly is one of the reasons why tax reform is so difficult to

achieve.

A second general problem of tax reform is that the direction in which to move from the

current system is not always evident. Even if all distortions can be reduced somewhat, this

may not increase economic efficiency. The basic difficulty is that one can only be sure that

movement in the direction of a global optimum will improve matters if we are sufficiently

close to that optimum initially. A related problem is whether one can increase economic

efficiency in a piecemeal fashion, by remaining distortion, one at a time. In general, such a

scheme for tax reform may decrease welfare along the transition path to a global optimum.

According to Broadway and Harris (1977), the prevention of this requires extreme

restrictions on preferences and production sufficiency.

3.5 Lessons for Tax Reform

Tax reform experience to date offers some important insights into useful tax policy design

and institutional development. A detailed discussion of this issue is provided in

Khalilzadeh-Shirazi and Shah, (1995). A brief summary is presented below:

The value added tax should be an instrument of choice for developing countries

contemplating reform of their sales tax. According to Harberger (1990), there was

no such thing as value added tax (VAT) some fifty years ago. Since its introduction

in the early 1950s, however, VAT has become a fiscal innovation that has swept


61

half of the world, including many developing countries. The VAT has become an

instrument of choice for most developing countries contemplating reform of their

sales tax. VAT can provide greater revenue, tax neutrality (economic efficiency)

and, under certain circumstances and to a limited extent, vertical equity.

The base of existing taxes should be broadened at the same time that tax

administration reform is carried out. Base broadening is compatible with a number

of economic objectives. It can increase revenues and improve the simplicity,

neutrality and equity of the tax system.

The use of the tax system for special tax preferences should be carefully evaluated.

Using the system to provide tax incentives (tax expenditures) usually causes a

serious drain on the national treasury by conferring windfall gains on existing

activities or by shifting resources to tax-preferred activities.

Tax reform must take into account the initial conditions at home and abroad. In

reforming their tax systems, developing countries are severely constrained not only

by their own institutional settings but also by the tax structure in capital-importing

countries. Moreover, the circumstances in many developing countries are usually

such that they would experience serious transitional difficulties if the tax system

were to be redesigned from scratch. Developing countries must therefore take into

account initial conditions at home and abroad.

The credibility of the tax regime is the key to the success of any tax reform. A

stable tax policy environment encourages businesses to take a longer-term

perspective in their finance and investment decisions. Making tax changes without

giving adequate consideration to transitional arrangements can undermine the


62

credibility of the tax regime. Therefore, transitional arrangements require much

more careful analyses than they have hitherto been given in developing countries.

In addition, tax changes must be presented as part of longer-term strategy to

improve the public sector environment for the private sector. The tax regime will

gain the confidence of business if more attention is paid to the preparation and

analysis of reforms, advance consultation, providing a reasonable period of

adjustment prior to implementation and ensuring consistency of the reform

measures.

The tax reform process must be well coordinated. Coordinated tax reform offers

significant advantage over isolated piecemeal tinkering with the tax system. A

coordinated reform ensures that individual tax changes will be consistent with the

central objective. For example, reduction in tariffs without a corresponding

increase in other taxes, generally of a value added type, can increase the fiscal

deficit and exacerbate macroeconomic difficulties. Furthermore, to improve

economic performance in general, tax reform should be closely integrated with

structural adjustment measures.

More often, policy advice directed towards countries desiring to reform their tax systems

has emphasized the introduction of either new taxes or new rates on existing bases, more

stringent administrative changes to seal loopholes that encourage tax evasion, and the need

to widen tax bases and reduce exemptions. Other measures include the allocation of more

budgetary resources to the revenue authorities, paying higher salaries to revenue officers

and imposing relatively prohibitive penalties. Generally, special attention is also directed


63

to the simultaneous reduction of the tax rates and widening of the base as one of the most

effective approaches for addressing the twin problems of the disincentive effects of high

marginal tax rates and tax evasion.

Tax reform measures are mainly undertaken in order to restore buoyancy to revenues,

strengthen modern taxes, and drastically reduce the complexity and lack of transparency of

the system (World Bank, 1990). The main factors contributing to an improved revenue

performance are changes in tax legislation, tax administration and minimal tax evasion

(Morrisset and Izquierdo, 1993).

3.6 Conclusion

The most important way to ensure an automatic increase in the ratio of government

revenues to gross domestic product is to have a tax structure such that the marginal ratio

exceeds the average ratio or in other words an income-elasticity greater than unity. The

primary interest of those concerned with domestic resource mobilization must therefore be

in the behaviour of the tax system over time.


64

CHAPTER FOUR

METHODOLOGY AND DATA USED IN THE STUDY

4.0 Introduction

This chapter comprises two sections. The first outlines the theoretical background and the

analytical framework upon which the empirical study is built and discusses application of

the dummy variable method which is used to determine the elasticity of the tax system in

this study. The second looks at the estimation techniques and empirical results from the

data analysis. These entail sources of data, a description of variables of interest and their

proxies. It also presents the characteristics of the time series data.

4.1 Analytical Framework

As governments embrace tax reforms and budget rationalization programmes, it is

necessary that revenue structures designed are flexible enough to guarantee increased

revenue during the growth process without necessarily resorting to discretionary policy or

inflationary financing. Such structures would ensure that tax revenues grow faster that

national income.

Theoretically, predominant taxes in revenue must be those which are highly elastic with

respect to national income. This feature when present in a tax system can be applied to

mitigate the dangers of perpetual fiscal imbalances. High revenue productivity is usually

considered as one of the criteria of a good tax system.


65

To be able to study the revenue mobilization performance of the mining sector fiscal

regimes, the concepts of tax buoyancy and tax elasticity will be employed as in Singer

(1965) and Mansfield (1972).

4.2 Tax Elasticity

According to Goode (1993), elasticity of a tax refers to the relationship between the

proportional changes in tax revenue and a broad measure of national income or output. It

refers to changes in the tax revenue that occur automatically with no changes in tax

administration, tax rate or exemptions. Tax elasticity tries to reconstruct what would have

happened if there had been no changes in the tax rules. In other words, what tax revenue

would have been if last year‘s laws continued to apply this year? Mathematically, it can be

expressed as

WhereT is tax revenue from mining sector, Y is mining sector GDP and Ety is income

elasticity of tax.

The main use of tax elasticities is to identify which taxes are naturally elastic – i.e., which

taxes will yield more revenue as income (GDP) rises, even if rates are not changed

annually. Elastic taxes are generally considered to be desirable, because they reduce the

need to tinker with the tax system every year. Tax elasticities are unit-free, and so may be

compared across countries without further modification.


66

Tax elasticities are calculated for total tax revenue and can equally be constructed for

individual taxes with some degree of success. The procedure is first to generate a revenue

series, assuming no change in the tax rates from year to year, and then one may apply

methods to compute the elasticity.

An elastic tax system is one where the incremental tax revenue to national income ratio is

greater than the average tax to national income ratio given that the tax structure does not

change. A given tax is said to be elastic if the marginal tax rate exceeds the average tax

rate, given that the average share of tax base in national income remains constant. The tax

elasticity will be unitary if the marginal and the average rates of taxation are equal and it

becomes inelastic if the marginal is less than the average rate of taxation.

Conventionally, the elasticity of total tax revenue to income is presented in an aggregate

form as a single value, but realistically the overall elasticity of a tax system is the weighted

average of the sum of individual tax elasticity that responds in various ways to changes in

income. This implies that an evaluation of the overall tax elasticity must begin with an

examination of the individual elasticities. Mansfield (1972) defined these elasticities as

follows:

Elasticity of total tax revenue to income:

Elasticity of kth

individual tax to income: (1)


67

Elasticity of the kth

individual tax to base:

(2)

Elasticity of the kth

individual base to income:

(3)

Where Tt is total tax revenue, Y is income, Bk is base of kth

tax, Tk is revenue from kth

tax.

(4)

Where subscripts 1, 2 and n refer to the different individual taxes which are expressed as a

ratio of total tax revenue indicated by the subscript t to give the individual tax weight.

The elasticity of any individual tax with respect to income is decomposed into the product

of the elasticity of the tax-to-base and the elasticity of the base-to-income.

Mathematically,

(5)

Weighting each individual tax for its share in total tax and summing for all the individual

taxes, we obtain:


68

(6)

This equation implies that the elasticity of total revenue in a system of n taxes partly

depends on the product of the elasticity of tax base to income for each individual tax,

weighted by the importance of each tax in the overall tax system (Osoro, 1995).

Tax elasticity excludes the impact of discretionary policy changes. The most important use

of tax elasticity is to identify which taxes are naturally elastic. An elastic tax system

enables the public sector to appropriate a growing share of the marginal increases in

income. With an inelastic tax system, a rising public expenditure may be financed either

through higher money supply with the attendant problems of inflation and balance of

payment crises, or by annual upward revision of the existing tax rates. Also an elastic tax

system is considered as efficient and acts as an instrument of stabilization.

4.3 Buoyancy of Tax

The buoyancy of a tax system reflects the total response of tax revenue to changes in tax

policies over time (Osoro, 1995). The buoyancy can be estimated by regressing the tax

revenue on the tax base such as national income (GDP) after taking the natural logarithm

for each of them. It measures the relationship between the proportional changes in tax

revenue and those of the tax base and therefore, gives a quantitative measure of the

effectiveness of tax policy in terms of stimulating public resources (Teera, 2002).


69

The global buoyancy of a tax system is usually measured by the proportional change in

total tax revenue with respect to the proportional change in national income and can be

expressed as;

Where T is total tax revenue, Y is income or GDP. The global buoyancy can be

decomposed into individual tax buoyancy as;

Where Tt = T1 + T2+ …. + Tn and n is the number of taxes. The global buoyancy is a

weighted sum of the individual tax buoyancy (Sohato, 1961) and used to obtain the

elasticity of tax revenue with respect to tax-to-base and base-to-income as:

And

Thus, global buoyancy

Measurement of tax elasticity is similar to buoyancy of tax with the difference being that,

when no attempt is made to control for discretionary measures that alter the tax rate and/or


70

base, then the responsiveness of tax revenue to changes in income is the buoyancy and

controlling for such measures give estimates of tax elasticity. It follows that a buoyant

(elastic) tax is the one whose buoyancy (elasticity) is greater than one. According to

Twerefou, Fumey, OseiAssibey and Asmah (2010), discretionary tax measures (DTMs)

are under the manipulation of the policy maker and are generally due to changes in tax

rate, base definition as well as changes in collection and enforcement of tax law, while

non-discretionary changes are due to the natural growth of the economy. When the

elasticity of major revenue sources remains low despite tax reforms either due to low base,

or due to evasion or avoidance, governments raise additional resources through

discretionary measures. Then the growth of tax revenues comes through high buoyancy

rather than through elasticity.

4.4 Model Specification

Two methods have traditionally been employed to estimate tax elasticities. These are the

historical time-series tax data (HTSTD) adjusted to discretionary tax measures (DTMs)

and the unadjusted HTSTD with time trends or dummy variables as proxies for DTMs.

The usual practice in the former technique is to run the proportional adjustment for

cleansing the HTSTD as in Mansfield (1972) and Kusi (1998) or to use the constant rate

structure as in Andersen (1973) and Choudhry (1979). In the latter technique, a Divisia

index has been used as in Choudhry (1979) and sometimes simple or mixed dummies are

used as proxies for each DTM over the estimation period as in Singer (1968), Artus (1974)

and Twerefou et al (2010).


71

This study adopts the unadjusted HTSTD with dummy variables incorporated as proxies

for discretionary tax measures as in Singer (1965) to evaluate the buoyancy and elasticity

of the tax system due to its non-intensive data requirement and the non-requirement of

disaggregated data.

By specifying a Cobb-Douglas function of the form;

(7)

OLS is then applied to estimate the parameters of α and β, where the coefficient β is an

estimate of tax buoyancy and ∈ is the stochastic term. From the above relationship,

elasticity estimates are obtained by replacing historical tax revenue series by tax revenue

series at a constant tax structure. The revenue at a constant tax structure is obtained from

the historical series of tax revenue by cleaning the tax series for effect of changes in tax

rates and tax base during the reference period. This requires information on the revenue

effects of DTMs introduced in the reference period which is under the manipulation of

policy maker unlike non-discretionary changes that are due to natural growth of the

economy.

Thus, tax buoyancy/elasticity can be decomposed into two:

(8)


72

(9)

Where TRk is the unadjusted HTSTD of the kth

tax, Bk is tax base for the kth

tax, Y is

nominal mining sector GDP which is the overall base, ak is elasticity of the kth

tax to its

base, δk is the elasticity of kth

tax base to income, a0 and δ are constants and and µ are

stochastic error terms.

With the help of the two kinds of elasticity we obtain the elasticity of the kth

tax to income

ΗK as the product of αkandδk. To capture the effects of the reforms in the short run, a

dummy variable D is introduced into the decomposed elasticity equations above. The

modified short run elasticity and buoyancy functions are:

(10)

(11)

Where and are the dummy coefficients and the summation sign represents the total

DTMs over the period under study.


73

4.5 The Dummy Variable Approach

The Dummy Variable Approach makes use of unadjusted historical time series tax data

with time trends or dummy variables incorporated as proxies for DTMs. This is done to

capture the elasticities. From equation (7), the empirical model can be shown as:

(12)

Where TRtk denotes tax revenue for k

thtax, β is the elasticity and D is the dummy variable,

which takes a value of one for discretionary tax measures and zero otherwise.The

summation accounts for the multiple discretionary tax changes over the sample period.

Two dummies are considered in this study – a tax reform dummy, D1996 introduced to

capture fiscal reforms undertaken in 1996 and an interactive term Dslopewhich is the slope

of the tax revenue function as a result of the tax reforms. Dslope is defined as TR×D1996

which ensures the linearity of the model. The lagged base is also introduced to account for

the administrative efficiency, or otherwise, in tax collection as tax policy guidelines

announced in budget speeches normally require time to be implemented. If there are severe

administrative lags, the lagged value will be more significantly related to the dependent

variable.

The Engle-Granger two steps cointegration procedure was used to establish the long-run

relationship between the relevant variables and to generate the error correction term for the

aggregate and individual tax functions. The Breusch-Godfrey Serial Correlation LM test is

preferred over the Durbin Watson Statistic in detecting the presence of serial correlation in

the data set.


74

4.6 Estimation Techniques

This section is on data source and various tests of time series of the data (i.e., unit root and

cointegration tests).

4.6.1 Taxes Considered

The approach of analysing the mining tax system in terms of buoyancy and elasticity of

this study begins with a look at the aggregate tax revenue function and the individual taxes

that form the total tax. A brief definition of the total tax revenue and its constituent tax

units are presented below:

Total Tax Revenue (TTR): This is the summation of Pay-As-You-Earn Tax (PYTAX),

Company Tax (COTAX) and Royalty Tax (ROYTAX) of the mining sector in Ghana.

That is, TTR = PYTAX + COTAX + ROYTAX

4.6.2 Choice of tax bases and Data Sources

The different types of taxes to be considered include the aggregate tax revenue function

and the individual taxes that form the total tax in the analysis of buoyancy. With regards to

the proxy tax base for the taxes considered in this study, there is no precise legal definition

for tax bases and this is a limitation to the tax data set. It is argued that proxy bases

constitute a reasonable representative of the component of national wealth of transactions

upon which a particular tax can be assessed (Mtatifikolo, 1990).


75

Secondary Data on all tax revenues were sourced from Ghana Revenue Authority and the

Minerals Commission of Ghana for the period under study. Quarterly Digest of Statistics

and Economic Survey Reports were sourced from the Ghana Statistical Services. These

publications contain annual time series data on economic classification of central

government revenue among others.

The IMF source of data was derived from the Government Finance Statistics Yearbook

which contains time series data on central government operations of member countries.

Data from this source was used to supplement those of GoG sources and are considered

adequate for estimating tax buoyancy and elasticity of the Ghanaian tax system.

Table 4.0: Description of Various Taxes and Their Proxy Bases

Tax Type Definition Proxy Base Definition Source

Total Tax

Revenue

(TTR)

Summation of all

individual tax

revenues

contributions by the

mining sector

Mining sector

GDP

Share of GDP

attributable to

the Mining

sector

Quarterly

Digest of

Statistics

Personal

Income Tax

(PYTAX)

Tax levied on

personal income and

earnings of

employees based on

the principle of Pay

As You Earn

(PAYE)

Mining Share of

Current

Personal

Income

(CUPY)

Private

employee

emoluments in

the mining

sector

Quarterly

Digest of

Statistics &

Economic

Survey Reports

Corporate

Income Tax

(COTAX)

Tax on earnings of

mining companies

Mineral Exports

(MEXP)

Value of

exports of all

gold, diamond,

manganese and

bauxite

IMF & Bank of

Ghana Annual

Reports

Royalties

(ROYTAX)

Production base tax

by mining lease

holders to the

government through

GRA

Mineral

Exports(MEXP)

Value of

exports of all

gold, diamond,

manganese and

bauxite

IMF & Bank of

Ghana Annual

Reports


76

4.7 Data Characteristics

The time series data for the study is analysed to ensure its stability and long run

relationship between the variables as well as short run disequilibrium. These are performed

in line with the following steps:

4.7.1 Unit Root Test for Stationarity

Non-stationarity of a time series data is regarded as a problem in an empirical analysis, so

as a short-hand rule, checking if the regression will give a reliable result is to ensure that

the data is stationary. The variables may be non stationary at level, in this case a retest at

first difference is carried out and if still not stationary, a second difference test of

stationarity is performed and so on; the number of times a data is differenced gives the

order of integration. The unit root test is used to test for the stationarity of the data and this

begins by specifying an Augmented Dickey-Fuller (ADF) test equation as follows:

Where Xt is any of the variables used in the model, a0 is constant, t is the linear trend, and

the lag of ΔXt incorporated in the model forms the augmentation. The i is the optimal lag

length that is set to ensure that any autocorrelation in ΔXt is absorbed and the error term is

assumed distributed as white noise (Dickey and Fuller, 1981).


77

A regression test is run on each variable against its lagged ones and the lag difference

terms of the same. A line graph of each variable is plotted to observe their characteristics

before choosing the constant term, the constant term and linear trend t, or none in the

equation. The appropriate test with respect to the data characteristics is applied as follows:

if the calculated t-ratio of the coefficient β with negative sign is less than its critical value

then Xt is said to be stationary.

4.7.2 Cointegration analysis

Non-stationary variables which are not cointegrated lead to nonsensical result with no

meaningful economic interpretation, this is called spurious regression (Granger and

Newbold, 1974) and this means not all variables share trend can be explained

meaningfully in terms of economics. In order to avoid such spurious regression, the

method used in this study is the Pedroni (Engel-Granger based), 2004 technique. The

existence of a cointegrating relationship implies that the regression of the non-stationarity

series in their level yields meaningful and not spurious results. However for cointegration

to exist, the non-stationarity series must be integrated of the same order. The Engle-

Granger two-step cointegration procedure is adopted to test for cointegration in this study.

This method involves an adjustment process that prevents errors from becoming

indefinitely in the long run relationship between the dependent variables (tax variables)

and the independent variable (tax bases). In other words, when non-stationarity variables

move together, in the long run there exists a stationary linear combination of these

variables. The first step in this test is to estimate cointegrating static (long run) models


78

using the OLS method. The second step involves generation of residuals from the static

models which are then individually evaluated in terms of their order of integration using

the DF or ADF unit root test. It should be noted however that the usual ADF critical values

are inappropriate (Gujarati, 2003), so Engel and Granger (1987) came up with the

appropriate critical values against the ADF t-statistic can be resolved (Charemza and

Deadman, 1997).

4.7.3 Error Correction Model (ECM)

To determine the short run elasticity and buoyancy coefficients of the respective

cointegrating regression equation, an over-parameterized ECM version of the relevant

equations is used. The error correction terms (ECTs) is derived, as the lagged residuals

value generated from the estimated long-run cointegrating equations. A ‗general to

specific‘ procedure of parsimonious model specification is followed. The variables in the

over-parameterized tax elasticity and buoyancy models with the exception of ECTs and the

dummy variable is set at two lag to economize on the degrees of freedom. The Schwarz

Information Criterion (SIC) is used to drop statistically insignificant variables from the

models in order to come up with more preferred specifications.


79

5

6

7

8

9

90 92 94 96 98 00 02 04 06 08 10

TTR

5.0

5.5

6.0

6.5

7.0

7.5

8.0

8.5

90 92 94 96 98 00 02 04 06 08 10

PYTAX

4

5

6

7

8

9

90 92 94 96 98 00 02 04 06 08 10

COTAX

5.2

5.6

6.0

6.4

6.8

7.2

7.6

8.0

8.4

90 92 94 96 98 00 02 04 06 08 10

ROYTAX

8.6

8.7

8.8

8.9

9.0

9.1

9.2

90 92 94 96 98 00 02 04 06 08 10

GDP

6.5

7.0

7.5

8.0

8.5

9.0

9.5

10.0

90 92 94 96 98 00 02 04 06 08 10

MEXP

5.5

6.0

6.5

7.0

7.5

8.0

8.5

9.0

90 92 94 96 98 00 02 04 06 08 10

CUPY

CHAPTER FIVE

PRESENTATION AND DISCUSSION OF RESULTS

5.0 Introduction

In this chapter, a summary of empirical results from econometric analysis of ordinary least

square regression estimates of the tax buoyancy and income elasticity models of the

Ghanaian mining sector tax system using time series are presented. The analyses were

done using Eviews 7 econometrics software.

5.1 Results of Unit Root Test

Unit root test results for the ADF in both levels and first differences of the variables are

reported in Table 5.0 below and they are used to examine the stationarity of the series. The

graphical representations of all the variables are reported.

Figure 5.0: Graphical Representation of Log Variables in Levels


80

Table 5.0: Results of Augmented Dickey-Fuller (ADF) Test for Unit Root

Variable Definition of

Variable

ADF

Statistic

1% Critical

Value

5%

Critical

Value

Order of

Integration

LTTR Total Tax Revenue -1.8702 -4.4983 -3.6584 I(1)

DLTTR -4.2404** -4.5326 -3.6736 I(0)

LPYTAX Personal Income

Tax

-2.7888 -4.6162 -3.7105 I(1)

DLPYTAX -4.2525** -4.6679 -3.7332 I(0)

LCOTAX Company Tax 0.0591 -3.8085 -3.0207 I(1)

DLCOTAX -4.6665** -3.8868 -3.0522 I(0)

LROYTAX Royalty Tax -2.3519 -4.4983 -3.6584 I(1)

DLROYTAX -5.0098** -4.5326 -3.6736 I(0)

LGDP Gross Domestic

Product

-2.0499 -3.8085 -3.0207 I(1)

DLGDP -5.0242** -4.5326 -3.6736 I(0)

LMEXP Mineral Exports -2.7870 -4.5326 -3.6736 I(1)

DLMEXP -3.7243* -4.5326 -3.6736 I(0)

LCUPY Current Personal

Income

-3.1023 -3.5326 -3.6736 I(1)

DLCUPY -3.7320* -4.5326 -3.6736 I(0)

Source: Authors’ Computation, Note: * denotes significance at 5% and ** denotes significance at 1%.

Unit root test results for the ADF in both levels and first differences of the variables in

Table 5.0 above showed that total tax revenue, personal income tax revenue, company tax,

royalty tax, GDP, mineral exports and current personal income were integrated of order

zero implying that there was no presence of unit roots in first differenced form of the

variables. This also implies that stationarity of the variables was attained in first


81

difference. All variables except Mineral Exports and Current Personal Income were

significant at 1%. The two were subsequently significant at 5%.

5.1.1 Results of Cointegration Test

The Engle-Granger Two-Step was applied to test for the existence of cointegration. The

procedure was applied on the residuals after obtaining the static long-run regression for

each stochastic equation. The residuals are then saved and tested for stationarity. A non-

stationary residual implies that the variables in the equation generating the residual are not

cointegrated and the results are presented in Table 5.1 below.

Table 5.1: Engle-Granger Two Step Cointegration Test: Buoyancy Results

Tax Equation Residuals ADF-

Statistic

1% critical

value

5% critical

value

Inference

TTR TTRres -3.8378* -4.5716 -3.6908 I(0)

PYTAX PYTAXres -4.6710* -4.7284 -3.7597 I(0)

COTAX COTAXres -3.9434** -3.8085 -3.0207 I(0)

ROYTAX ROYTAXres -3.4930* -3.8085 -3.0207 I(0)



82

-1.2

-0.8

-0.4

0.0

0.4

0.8

90 92 94 96 98 00 02 04 06 08 10

TTRRES

-1.0

-0.5

0.0

0.5

1.0

90 92 94 96 98 00 02 04 06 08 10

PYTAXRES

-2.0

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

90 92 94 96 98 00 02 04 06 08 10

COTAXRES

-.8

-.4

.0

.4

.8

90 92 94 96 98 00 02 04 06 08 10

ROYTAXRES

Figure 5.1: Line Graphs for the Buoyancy Equation


83

From the Table 5.1above, total tax residuals are stationary at level suggesting the presence

of a cointegrating relationship between total tax revenue and mining sector GDP.

Similarly, all other tax residuals attained stationarity at level. ADF statistics for all tax

residuals were either significant at 1% or 5%. All except company tax residuals were

significant at 5%. Conclusively, cointegration test for the buoyancy equation (Table 8)

showed that all residuals were stationary in levels which support the existence of a

cointegrating relationship in the buoyancy estimation equations of all the variables.

Table 5.2: Engle-Granger Two Step Cointegration Test: Tax-to-Base Elasticity

Results

Tax Equation Residuals ADF-

Statistic

1% critical

value

5% critical

value

Inference

TTR TTRres -3.8378* -4.5716 -3.6908 I(0)

PYTAX PYTAXres -3.7852* -3.9204 -3.0656 I(0)

COTAX COTAXres -3.5943* -3.8867 -3.0522 I(0)

ROYTAX ROYTAXres -4.1706** -3.8574 -3.0404 I(0)



84

-1.2

-0.8

-0.4

0.0

0.4

0.8

90 92 94 96 98 00 02 04 06 08 10

TTRRES

-.8

-.6

-.4

-.2

.0

.2

.4

.6

90 92 94 96 98 00 02 04 06 08 10

PYTAXRESTB

-2

-1

0

1

2

90 92 94 96 98 00 02 04 06 08 10

COTAXRESTB

-.8

-.6

-.4

-.2

.0

.2

.4

90 92 94 96 98 00 02 04 06 08 10

ROYTAXRESTB

Figure 5.2: LineGraphs for the Tax-to-Base Residuals

From Table 5.2above, all total tax residuals were stationary at level suggesting the

presence of a cointegrating relationship between total tax revenue and their respective

proxy bases. This showed that Pay-As-You-Earn tax had a cointegrating relationship with

current personal income (CUPY). Company and royalty taxes also shared a cointegrating

relationship with mineral exports. All other tax residuals attained stationarity at first

difference. ADF statistics for all tax residuals were either significant at 1% or 5%. All

except royalty tax residuals were significant at 5%. Conclusively, cointegration test for

the tax-to-base elasticity equation (Table 5.2) showed that all residuals were stationary in

levels which supported the existence of a cointegrating relationship in the tax-to-base

buoyancy estimation equations of all the variables.


85

Table 5.3: Engle-Granger Two Step Cointegration Test: Base-to-Income Elasticity

Results

Tax

Equation

Residuals ADF-

Statistic

1% critical

value

5% critical

value

Inference

CUPY CUPYres -3.8218* -3.8868 -3.0522 I(0)

MEXP MEXPres -5.7857** -3.8574 -3.0404 I(0)


From Table 5.3 above, current personal income and mineral exports share of a

cointegrating relationship with GDP as their residuals are both integrated of order zero.

Current personal income residuals represented by their ADF statistic were significant at

5%. Mineral export residuals were however significant at 1%. Thus, the cointegration test

for the base-to-income elasticity equation (Table 5.3) showed that all residuals were

stationary in levels which supported the existence of a cointegrating relationship in the tax-

to-base buoyancy estimation equations of all the variables.

5.2 Regression Results

Below are the estimated regression models for the long and short run buoyancy and

elasticity models. Diagnostic tests showed that residuals are normally distributed and

stable. Where the probability value of the Breusch-Godfrey serial correlation LM test

suggests high degree of residual autocorrelation, the problem was corrected by the use of


86

Generalised Least Squares estimation procedure assuming an AR(1) process. Tables

showing the Breusch-Godfrey LM test are shown in the appendix.

The study shows that variables were cointegrated; that is, there is a long term relationship

between them. This also means that in the short run there may be disequilibrium.

Therefore the error correction term is added as an explanatory variable.

For example since COTAX and MEXP are cointegrated, the short run equation is

expressed as

5.2.1 Tax Buoyancy: Long Run and Short Run

Table 5.4 below shows results of the long run and short run regressions of the estimated

tax buoyancy of the mining sector tax system for the period 1990 to 2010. The estimated

regression models performed well in terms of goodness of fit and joint significance with

Adjusted R2 of above 60% and F-statistic being significant at 1% respectively.


87

Table 5.4: Estimated Tax Buoyancy Results of the Tax system in Ghana’s Mining

Sector

Short Run Dynamics Long Run Dynamics

Tax Variables Coefficient

(Buoyancy)

DW Ṝ 2 Variables Buoyancy DW Ṝ 2

TTR

LGDP-2** 0.69 2.31 0.92 LGDP** 0.78 1.59 0.98

ECMTTR-

1**

-0.13

PYTAX

LGDP-1** 0.22 2.57 0.61 LGDP** 1.03 2.12 0.97

ECMPYT-

1**

-0.31

COTAX

LGDP-1** 1.66 2.09 0.74 LGDP* 2.14 1.98 0.90

ECMCOT-

1**

-0.34

ROYTAX

LGDP-1** -1.81 2.43 0.72 LGDP** 0.55 2.30 0.98

ECMROY-

1**

-0.66

Source: Authors’ Computation. Note: * denotes significance at 5% and ** denotes significance at 1%.

Results from the long run estimation showed that all but royalty taxes were buoyant.

Overall, total tax revenue showed a buoyancy of 0.78 which implies that as GDP increases

by 100 percent; tax revenue rises by 78%. This illustrates that tax revenue from the taxes

grow less faster than the GDP and could imply that the discretionary changes implemented

have generally been ineffective at increasing tax revenue for majority of the taxes

compared to proportionate change in GDP. This result is in line with a study done by

Chipeta (1998) which established the overall buoyancy of Malawi to be 0.95 (less than

unity). This result contradicts a study by Gillani (1986) which found Pakistan‘s tax

system‘s long run buoyancy to be elastic (1.17). The finding of 0.78 can be attributed to

the low buoyancies of royalty taxes which are a key component of the total mining tax


88

system. Pay-As-You-Earn tax however had a positive and significant coefficient of 1.03.

This indicates that PAYE tax revenue grows faster than GDP in the long run. Again, this

result contradicts Gillani (1986) study which attained a buoyancy of 0.82 for income tax in

Pakistan but confirms the work of Bilquees (2004) which found a long run buoyancy of

1.15 for the non-agricultural sector of Pakistan. Buoyancy results for company tax revenue

of 2.14 showed that company tax revenue grows more than double the growth rate in GDP.

This result can be attributed to the fact that the degree to which underestimation of profits

by companies with respect to company tax is curbed through external auditing. Tax audits

conducted in the mining companies place emphasis on whether profits declared are

underestimated or otherwise. This result is supported by similar findings by Kusi (1993)

which found a post-tax reform company tax buoyancy of 1.36, Gillani (1986) which found

corporation tax buoyancy of 2.25. Similarly, the work of Twerefouet al. (2010) which

found a long run buoyancy of 1.20 for corporate tax is confirmed by the result shown in

Table 11. Royalty taxes returned a long run buoyancy of 0.55 which implies that a hundred

percentage change in GDP causes revenue sourced from royalties to change by 55%.

The negative and significant coefficients of the error correction term lagged one period

(ECT-1) for all models could imply that there are economic forces that operate to restore

the long-run equilibrium path of revenue following short-run disturbances. For example,

Total Tax Revenue (TTR) and Company Tax (COTAX) regression models coefficients of

-0.13 and -0.34 respectively means that Total Tax Revenue model adjusts to its long run

equilibrium at a speed of 13% whiles Company Tax model does same at 34%. Similarly,

PYTAX and ROYTAX regression model coefficients of -0.31 and -0.66 means that the

respective tax revenue models adjust to their long run equilibrium at a speed of 31% and


89

66%. The results showed that in the short run, GDP in its first and second lags have

positive influence on TTR, PYTAX, COTAX and negative influence on ROYTAX. Short

run buoyancy for the overall tax system and individual tax categories were less than unity

except company tax (COTAX). Company tax being very buoyant in the short run suggests

that this tax revenue grows faster than GDP and this could imply that the fiscal changes in

company tax rates have been effective at increasing the tax revenue compared to

proportionate change in output. Pay-As-You Earn tax (PYTAX) and Royalty tax recorded

short run estimates of 0.22 and -1.81 respectively. The results for COTAX, PYTAX and

TTR are in line with Kusi (1993) buoyancy estimation for Ghana and Muriithiet al. (2003)

buoyancy estimation for the Kenyan tax system.

5.2.2 Decomposed Buoyancy into Tax-to-Base and Base-to-Income Elasticities

Table 12 below gives the Tax-to-Base results for the long run static and short run dynamic

regressions for the Ghanaian mining tax system over the sample period 1990-2010. The

estimated Tax-to-Base elasticity models performed well in terms of goodness of fit and

overall significance with Adjusted R2 of above 70% and the F-statistic significant at 1%

respectively. Where the Breusch-Godfrey LM serial correlation test suggests

autocorrelation, the problem was dealt with by using Generalised Least Squares estimation

procedure assuming an AR(1) process.


90

Table 5.5: Estimated Tax-to-Base Elasticity of the Mining Sector Tax System

Short Run Dynamic Long Run Dynamic

Tax Variables Coefficient

(Elasticity)

DW Ṝ 2 Variables Elasticity DW Ṝ 2

TTR

LGDP-2** 0.69 2.31 0.92 LGDP 0.78 1.58 0.97

ECMTTR-

1**

-0.13

PYTAX

LCUPY-

1**

0.05 1.75 0.85 LCUPY 0.31 2.27 0.97

DUM** 0.48

COTAX

LMEXP-

1**

0.30 2.07 0.71 LMEXP 0.33 1.88 0.93

ECMCOT-

1**

-0.56

ROYTAX

LMEXP-

1**

0.25 1.61 0.81 LMEXP 0.26 2.61 0.99

DUM** 1.24


It is observed from the Table 5.5 above that, in the long run, the overall tax system and the

various tax categories were inelastic as indicated by the tax-to-base elasticity coefficients

which were less than unity meaning that a percentage change in their respective bases

resulted in less than a percentage change in tax revenue from the various taxes. Pay-As-

You-Earn tax had a tax-to-base elasticity of 0.31 which suggests that current personal

income grows faster than the PYTAX. Given a percent change in current personal income,

PYTAX changes by 0.31 percentage points. Similarly, COTAX and ROYTAX tax-to-base

coefficients of 0.33 and 0.26 were inelastic with respect to Mineral exports. Thus mineral

export growth exceeds the tax revenue from these too sources. These results are in


91

consonance with Chen (2008) which found out the Chinese tax system yielded an inelastic

tax-to-base elasticity in the long run. However, Twerefouet al. (2010) found the opposite

to be the case in the overall Ghanaian tax system. This is largely due to choice of tax bases

as well as the different nature of the mining sector from the overall economy where for

example no import taxes in the mining sector. In addition, higher cost of production and

general, selling and administrative expenses stemming from the cedi depreciation against

the US Dollar (especially from 1998 to 2009) resulted in lesser profits and hence lesser

corporate tax even though revenue from mineral exports increased.

The short run results showed that the individual tax categories are not elastic to their bases

as reflected by the coefficients which are less than unity. GDP in its second lag exerts an

elasticity of 0.69 with respect to total tax revenue. Total tax revenue also adjusts to its long

run equilibrium at a speed of 13% as indicated by the error correction term. Similarly,

COTAX had a less than unit elasticity of 0.30 and attained its long run equilibria at a speed

of 56%. The results also showed that Company tax was however elastic to its base in the

short run. The one period lagged mineral export‘s positive influence of 0.30 for the

COTAX could be a reflection of arrangements whereby tax returns are submitted in

arrears. The dummy variable coefficient of 0.48 and 1.24was also significant for PYTAX

and ROYTAX and this indicates that there is a short run impact of the fiscal regime on

these taxes in terms of improving tax-to-base elasticity. The error correction term

coefficients were also statistically significant for all total tax and company tax variables.

The inelastic nature of tax-to-base relationship of this study is confirmed by Kargboet al.

(2012) study of the tax elasticity in Sierra Leone which found out that total tax system-to-

base elasticity was 0.81 in the short run.


92

Table 5.6: Estimated Base-to-Income Elasticity of the Mining Sector Tax System

Short Run Dynamic Long Run Dynamic

Base Variables Coefficient

(Elasticity)

DW Ṝ 2 Variables Elasticity DW Ṝ 2

CUPY

LGDP-1 0.48 2.15 0.47 LGDP 1.00 1.65 0.99

ECMCUPY-

1

-0.04

MEXP

LGDP-2 0.20 1.73 0.57 LGDP 0.94 1.33 0.99

ECMMEXP-

1

-0.48


Long run decomposition of buoyancy into base to income elasticity from the Table 5.6

above shows that base to income buoyancy is unitary elastic (elasticity of 1) for current

personal income and inelastic (elasticity of 0.94) for mineral exports. In the short run,

GDP in its first and second lags have positive influences on the current personal income

and mineral exports respectively. The negative and significant one period error correction

terms also suggests that there is a short run impact of the various fiscal regimes on these

taxes in terms of improving tax-to-base elasticity. The short run model also has all

individual tax categories being base-to-income inelastic as shown by the coefficients being

less than unity. From the results in Table 13 above, short run dynamics will attain long run

equilibria with 4% for current personal income and 48% for mineral exports. These results

are similar to a study by Kusi (1998) which established that base to income elasticity was

inelastic in both the long and short run. It also justifies the concern that the country‘s tax

base in not wide enough to capture tax revenue. According to Twerefouet al. (2010),

similar concerns were raised by Osoro (1993) and Suliman (2005) and the low elasticity

was attributed to the tax base not been wide enough to capture many tax payers due to the


93

presence of a significant underground economy thereby resulting in excess burden on few

people in the tax net.

5.2.3 Income elasticity of the Mining Tax System in Ghana

Table 14 below shows the results of the long run estimated elasticities of the total tax

revenue and the individual categories of tax using the Mansfield (1972) technique. All

equations have a good fit as indicated by the adjusted R2 and significant probability value

of F-statistics.

Table 5.6: Estimated Tax Elasticity Results of the Tax system in Ghana’s Mining

Sector

Tax Equation Elasticity Reform

Dummy

Slope Dummy Lagged Base Ṝ 2

TTR 0.75**

(0.55)

-0.73** (-

0.15)

0.04** (0.12) 1.24** (0.91) 0.96

PYTAX 0.94* (0.67) -6.58 (-1.20) 0.46 (-1.28) -0.31** (-

0.22)

0.82

COTAX 1.04* (0.70) 9.45* (0.72) -0.70* (-0.82) 2.90** (0.79) 0.71

ROYTAX 0.42 (0.34) -4.28 (-0.95) 0.29 (0.99) 1.07** (0.84) 0.66

Source: Authors’ Computation, Note: * denotes significance at 5% and ** denotes significance at 1%; t-

values are reported in parenthesis.

The long run elasticities of the total tax revenue and the individual categories of tax

indicate elastic and inelastic estimates. The overall mining sector tax elasticity was

inelastic (i.e., 0.75). This illustrates that as GDP increases by a hundred percent, tax


94

revenue from the mining sector yielded a less than one percent change (i.e., 75%). The

coefficient is significant at 5% level and we can state that the overall tax system is income

inelastic over the long run period. This supports the study by Kargboet al. (2012) which

also found the Sierra Leonean nationwide tax system to be 0.89 thus, inelastic. However,

the overall mining sector tax elasticity with respect to GDP in its first lag, however,

recorded a significant elasticity of 1.24. This could be the result of administrative

efficiencies in the collection of taxes. Reform and slope dummies were significant at 5%

but had negative (-0.73) and positive (0.04) influences respectively. This makes it difficult

to assess the impact of fiscal regime on tax yield since there are opposing influences from

the two dummies.

The elasticity of personal income tax revenue was also inelastic at 0.94. The coefficient is

significant at 1% and illustrates that the progressive tax system implemented in Ghana

changed by 94% for every corresponding 100% change in mining GDP. This can partially

be explained by the fact that income generated from local labour in the mining sector

accounts for a relatively small share of the total value of production mainly because all

mines coming on stream are surface operations that use capital intensive techniques.

Secondly, while the income tax law provides for the taxation of all revenues, whether

national or expatriate, in practice investors have obtained exemption or reduced taxation

on the income of their employed expatriates in their negotiated investment agreements.

This finding is confirmed by the work of Muriithiet al. (2003) which found out an inelastic

coefficient of 0.49 for direct taxes in Kenya. Here also, reform and slope dummies posted

opposing influences of -6.58 and 0.46 respectively making it difficult to assess the impact

of the fiscal changes.


95

Elasticities for Company tax were found to be greater than unity with a coefficient of 1.04

hence elastic. Alternatively, its elasticity with respect to the GDP in its first lag was

significant at 1% and elastic with a coefficient of 2.90. This implies that a percentage

change in GDP in its first lag resulted in a 2.90 percentage change in company tax

revenue. This is as a result of the regulations in place whereby companies file their

company tax returns in the next year because payment of this tax requires that company

accounts are audited which normally runs into the next year of operations.

Tax elasticity of royalties was found out to be 0.42 for a percentage change in GDP.. It

also had an elastic coefficient with respect to the lagged base of 1.07. Reform and dummy

variables again had opposing influences with a reform dummy coefficient of -4.28 and a

slope dummy coefficient of 0.29.

All taxes possessed positive lagged base and significant at 5% level except for personal

income taxes. This could be due to the result of administrative efficiencies in the collection

of these taxes. The reform dummy was only positively significant for the company tax at

5% level. The insignificant reform dummy coefficients indicate that the changes in fiscal

regime have not impacted on the revenue sources. On the whole, the slope dummies had

opposing influences with reform dummies making it difficult to assess the impact of fiscal

changes on tax yield from the tax revenue sources. The dummy coefficients were not

significant for the PAYE tax and royalty tax. These results are comparable to a study in

Sudan bySuliman (2005) where trade liberalization dummy and slope shift dummy had

opposing influence on income tax yield thereby making it difficult to assess the impact of

liberalization on tax yield from this source.


96

5.3 Comparison of Tax Buoyancy and Elasticity

Table 5.7: Estimates of Long Run Tax Buoyancy and Elasticity

Tax Buoyancy Elasticity Difference

Total Tax Revenue 0.78 0.75 0.03

Pay-As-You-Earn 1.03 0.94 0.09

Company Tax 2.14 1.04 1.1

Royalty Tax 0.55 0.42 0.13

Source: Author’s Estimation

Table 5.7 above shows the estimated values of buoyancy and elasticity over the study

period. ―Difference‖ was measured as the buoyancy estimates minus elasticity estimates.

The difference was positive for the overall tax system and individual tax categories. This

implies that the various discretionary measures undertaken in the study period have

improved tax yield in these taxes. For example, for a one percent increase in mining sector

GDP, the discretionary tax measures mobilized an additional 0.03 percentage points of

revenue from the overall tax system. For the other taxes, discretionary tax policies yielded

0.09%, 1.1% and 0.13% in PAYE, Company Tax and Royalty Tax respectively for every

growth in mining sector GDP

5.4 Conclusions

A number of findings were obtained from this empirical research. Taxes are not wholly

reactive to changes in income as most elasticity estimates are below unity. The estimates


97

of buoyancy and elasticity indicate that, overall, the use of discretionary measures has

been relied upon extensively as a source of revenue augmentation in Ghana. The relatively

higher coefficients obtained for the buoyancy estimates compared to the elasticity

estimates point to the role of discretionary measures in maintaining a steady source of tax

revenue for the government. The use of discretionary measures to raise additional tax

revenues is not only peculiar to Ghana as other studies have shown the use of such

measures in less developed economies (Kusi, 1998; Chipeta, 1998; Twerefou et al, 2010;

Muriithi et al, 2003; Osoro, 1993). The tax bases could not expand as mining GDP grows

resulting to low elasticities. Some of the factors that prevented the tax bases to broaden are

numerous exemptions granted to newly established mining companies, tax incentive and

duty waivers.

The short run elasticities being lower than the long run elasticities and the statistical

significance of the error terms showed the speed of adjustment in the tax system. This

trend could explain the presence of administrative lags in the tax collection system as tax

policy guideline announced in budget speeches normally require time to be implemented.

From the regression results, the following are a summary of the findings;

In the short run the tax yield of the mining sector and individual taxes are not

buoyant despite different fiscal regimes except for company taxes which were

buoyant.

In the long run the tax yield of the mining sector was not buoyant but personal

income and company taxes were buoyant. Royalty taxes were also not buoyant in

the long run.


98

The overall tax yield and individual tax categories were inelastic with the exception

of company taxes.


99

CHAPTER SIX

SUMMARY, CONCLUSIONS AND RECOMMENDATIONS

6.0 Introduction

This chapter focuses on the summary and conclusions of the study. The study implications

and suggested recommendations out of the findings for future fiscal regimes and revenue

mobilization drives that will improve the buoyancy and elasticity of the Ghanaian mining

tax system are also presented in this chapter. Limitation(s) of the study are also discussed.

The Government of Ghana undertook changes in mining fiscal regimes in 1985 and since

then series of other tax initiatives and reforms have taken place, all in a bid to address the

fiscal challenges that have plagued the country and mining sector investment. The study

focused on the tax buoyancy and income elasticity of the tax system in the mining sector

of Ghana as a means of evaluating tax performance and revenue mobilization capacity of

the overall mining tax system and the major mining tax categories with particular

emphasis on the 1996 tax reforms. Time series data over the period 1990 to 2010 was used

and the Engel-Granger method of estimation was employed. The dummy variable

technique was used to control for the discretionary tax measures (DTMs) implemented

over the period.

The study also presented an overview of the tax structure and administration with respect

to the mining sector of Ghana with a summary of fiscal regimes and discretionary

measures undertaken over the sample period as well as some stylized facts about the


100

mining sector. It was revealed that most reforms were aimed at generating revenue as well

as creating the incentive for private investment in the sector.

Both theoretical and empirical literature on taxation was reviewed. The theoretical

literature emphasized the role of taxation in economic development and also the

importance of buoyancy and elasticity in achieving economic growth. Towards this end

the review focused on some studies that have been done on buoyancy and elasticity and

pointed out the various techniques of evaluating them.

The empirical results and analysis presented in the previous chapter suggests that the fiscal

regimes had different impact on different taxes. Thus, while most of the prominent tax

categories in the system had inelastic yield with respect to the national income in the long

run, company tax had an elastic yield. This implies the proposition that the mining tax

system is not elastic and thus not efficient in mobilising maximum revenue from the

mining sector.

On buoyancy, the mining tax system as a whole did not have a buoyant system in the long

run. Individual tax categories like personal income and company taxes in the long run had

buoyant yield. Royalties, however, did not have a buoyant yield.


101

6.1 Recommendations

6.1.1 General Recommendations

The empirical results in this study have important implications for the mining sector in

terms of tax performance and revenue yield. To begin with, for the tax system to be

revenue enhancing, the yields of individual taxes should be responsive to changes in

national income as such the major taxes should be highly elastic and buoyant with respect

to national income or proxy bases for any developing country.

The overall tax system was found to be not buoyant and inelastic whiles some of the tax

categories were found to be elastic or buoyant than the others. Subsequently, it calls for

dynamic and strategic policies to target each tax differently. In this case broadening of the

proxy bases of these taxes would help the overall mining tax system and the individual

mining tax categories to be more buoyant and elastic. However, since tax bases are under

the control of the government rather than the tax authorities, measures need to be put in

place by the government to ensure a broad tax base.

Some of these measures may include creating an enabling business environment for

companies to flourish so as to enhance the company tax base, and perhaps making effort at

improving wage emoluments would help boost private income and eventually increasing

the base of personal income tax.

Moreover, it was also revealed that despite the relative successes chalked in the tax system

in terms of revenue mobilization as a result of fiscal regimes, there is still room for further


102

improvement in the collection; this therefore requires strengthening the capacity of the

revenue agencies to register more eligible tax payers (small scale miners) into the tax net.

To consider the tax buoyancy and income elasticity as decision criteria to ascertain the

performance of the mining sector tax system with regards to revenue generation, it may be

said to have been successful since we cannot lose sight of the fact that the DTMs often

applied are used to achieve other economic objectives such as pursuit of optimal resource

allocation, equity assurance among others which are at variance with revenue generation

purposes.

Finally, effective tax administration is needed to improve tax compliance and enhance

revenue collection so those who evade tax should be punished severely to serve as

deterrent for others; the punishment should include a fine that will cover cost of recovery

and a penalty or even a recall of mining licenses.

6.1.2 Specific Recommendations

It is desirable to have a built-in flexibility in the tax structure that will enable revenue to

increase by a greater proportion relative to an increase in income thereby facilitating an

increased role of the public sector in the economy. The suggestions below would help

achieve this objective and improve the yield of the tax system in Ghana.

On personal income tax, the study found out that the tax system was inelastic over the

period under consideration. It is recommended that a reduction in allowances and fringe

benefits as well as policies designed to improve coverage and assessment of income tax


103

would improve the elasticity as they would increase the share of the tax base to GDP. It is

argued that the policy where expatriates whose incomes enjoy higher reduced taxeswas put

in place to make the mining sector more attractive to foreign investment into the sector

(Akbazaa, 2010). The sector is now more investor friendly as its share in FDIs being over

70% can attest to. It is therefore recommended that, a proportion of expatriates‘ incomes

be taxed to also increase the share of the tax base to GDP.

On company taxes, there is the need to reduce the capital consumption allowances which

reduces the base (net profit after tax). Currently, mining companies are allowed to write

off 80% of what they consider as prospecting, exploration and development costs.

Considering that the mining sector is a capital intensive one, these depreciation allowances

afford companies the opportunity to carry forward losses sometimes beyond ten years, thus

providing virtual tax holidays coupled with the fact that surface mines have an average

lifespan of between 10-15 years, most companies may deplete their resources without

paying taxes. A fiscal regime for capital allowance of say 20% for five years of mining

companies should be implemented.

On royalty taxes, the government does not maximise its revenue due to collection

difficulties. Royalty is charged as a percentage of the total value of minerals won,

however, inconsistencies in valuation of minerals won makes revenue tracking more

difficult. Similarly, lack of uniformity in pricing of gold and other mineral commodities

produced by mining companies has led to variation in the computation of royalties, while

the application of different exchange rates regimes by mining companies for the payment

of mineral royalties have produced distortions in the computation of royalty. Fiscal

arrangements that allow for companies to defer or delay royalty payment with permission


104

from the sector minister should be scrapped. Such requests are commonplace and the

granted delay or deferred payment of royalties has often affected government projected

revenue streams. Since there is apparent lack of capacity for tax authorities to apply sliding

scale tax rates, it is recommended that fixed royalty rates in the region of 5-6% of total

value of mine output be used.

It is important for the tax authorities to identify new sources of taxation which are elastic

and can improve the tax performance in terms of revenue generation. The addition of new

sources of taxation would boost the overall tax buoyancy and elasticity of the tax system.

An example is the windfall taxes. Indeed, this tax is not new as prior to 2006, Ghana had

the Additional Profit Tax Law, 1985 (PNDC Law 122) on her statutes but had apparently

never been applied. An installation of windfall taxes will increase revenues extracted from

this sector because massive profits are being made by mining companies attributable to for

example to gold price increments of over 137% from 2006 to 2010 (US$600 to US$1421)

which was not matched with proportionate increases in operational cost.

A review of the principle of ring-fencing will also boost revenue generation. Ring-fencing

is aimed at preventing companies undertaking a series of projects from deducting costs

from new projects against profitable ventures yielding taxable income. This ensures that

companies‘ ability to evade tax as they start new projects whether feasible or not is

curtailed. With regards to new projects by new entrants into the mining sector, proper

monitoring by tax authorities should curb this act.


105

6.3 Limitations of the Study

The major limitations of the study include

The unavailability of definite tax bases which, consequently called for the use of

proxies in the estimations.

The study only estimated buoyancy and elasticity for the major taxes and not the

minor taxes with small yield (e.g. fees and licenses, withholding and capital gains

taxes) because the revenue effect for the DTMs of the minor taxes is given as a

global figure in the budget statement.

This research only gives aggregate level information reflecting the impact of the

total tax reform on the individual tax systems with respect to their corresponding

bases. It is not capable of disaggregating these impacts into various sources of

change in each tax under consideration such as the impact of changes in the

statutory tax rate or tax administration efficiency among others. Further research is

therefore required to address the foregoing limitations.


106

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Addy, S. N. (1998). Ghana: Revival of the Mineral Sector. Resources Policy,24(4), pp.

229–239.

Akabzaa, T. M. (2009).Mining in Ghana: Implications for National Economy

Development and Poverty Reduction.In Bonnie Campbell (Ed.)Mining in Africa,

New York: Pluto Express.

Akabzaa, T. &Abdulai, D. (2001).Impact of Mining Sector Investment in Ghana: A Study

of the Tarkwa Mining Region. Washington: SAPRI.

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APPENDIX

APPENDIX A: Total Investment Inflow Into The Mining Sector (2000-2010)

YEAR PRODUCING

COMPANIES

(US$)

EXPLORATION

COMPANIES (US$)

SUPPORT SERVICE

COMPANIES (US$)

TOTAL

(US$)

2000 29.91 179.40 22.47 231.78

2001 108.63 145.21 21.69 275.53

2002 110.50 186.44 18.65 315.59

2003 325.69 198.13 21.80 545.62

2004 407.58 207.36 23.39 638.33

2005 543.12 228.50 25.90 797.52

2006 330.36 232.90 23.48 586.74

2007 410.25 235.41 24.56 670.22

2008 466.75 270.72 27.83 765.30

2009 511.00 222.96 28.30 762.26

2010 508.20 231.00 30.80 770.00

TOTAL 3,751.99 2,338.03 266.87 6,358.89

Source: Minerals Commission of Ghana


113

APPENDIX B: Socio-Economic Contributions Of The Mining Sector

All values are expressed in thousands of US Dollars

2004 2005 2006 2007 2008 2009 2010

Education 487 604 1,121 1,010 1,406 1,259 2,827

Health 550 333 368 566 416 777 1,055

Electricity 141 66 176 459 334 285 526

Roads 75 692 399 609 2,613 1,376 1,459

Water 265 350 20 221 650 285 679

Housing 265 80 1,290 619 687 113 155

Agro-

Industry

2 1,228 387 779 51

Agriculture 9 11 88 744 1,552 610 809

Sanitation 116 66 2,649 263 405 228 196

Resettlement

Action Plan

548 20 2,649 4,503 568 800 1,190

Alternative

Livelihood

Projects

(other)

242 362 880 2,898 993 799 2,215

Others 371 338 845 831 2,004 2842 6,478

Total 3,070 2,923 11,713 13,109 12,406 9,424 17,590



114

APPENDIX C: Mineral Revenues From 2000-2010

Data expressed in million US$

YEAR REVENUE

2000 645.99

2001 642.34

2002 694.97

2003 820.04

2004 835.11

2005 901.22

2006 1,328.18

2007 1,366.27

2008 2,410.72

2009 3,067.87

2010 4,037.05

TOTAL 16,749.76



115

APPENDIX D: Breusch-Godfrey Serial Correlation LM Test

Global Buoyancy

Tax Equation Long Run Regression

F-Statistic Probability

TTR 0.3087 0.7386

PYTAX 0.1690 0.8464

COTAX 0.2612 0.7734

ROYTAX 0.9976 0.3906

Tax-to-Base Elasticity



TTR 0.3087 0.7386

PYTAX 0.0881 0.7722

COTAX 0.0881 0.7703

ROYTAX 2.0770 0.1677

Base-to-Income Elasticity



CUPY 0.8253 0.4598

MEXP 0.7697 0.4795


116

APPENDIX E: DATA USED FOR THE STUDY

YEAR COTAX ROYTAX PYTAX TTR MINING

GDP

MINERAL

EXPORT

CUPY

1990 0.28 0.19 0.47 436.16 7.27 0.40

1991 0.08 0.30 0.38 469.64 14.07 0.52

1992 0.05 0.45 0.50 517.36 23.32 0.90

1993 0.44 0.75 0.26 1.45 564.91 47.36 1.24

1994 0.72 1.28 0.48 2.48 593.68 70.58 1.65

1995 2.04 2.09 0.80 4.93 626.83 108.62 2.43

1996 0.92 3.55 1.68 6.15 653.36 128.26 3.44

1997 0.99 3.46 2.50 6.95 689.73 140.96 4.27

1998 1.45 4.98 3.10 9.53 731.78 193.81 5.51

1999 3.11 4.86 2.78 10.76 753.51 404.52 6.59

2000 1.58 11.87 5.92 19.38 764.48 544.28 7.91

2001 2.48 12.74 7.61 22.83 751.14 546.21 12.16

2002 2.35 15.35 10.15 27.84 784.40 655.89 23.63

2003 6.81 19.44 14.10 40.36 820.85 804.33 31.70

2004 10.03 21.57 13.44 45.04 856.41 823.13 38.61

2005 26.99 23.60 19.41 69.99 883.25 951.98 41.38

2006 40.44 31.63 21.65 93.71 1,019.02 1,289.42 67.26

2007 47.42 40.88 34.59 122.89 1168.69 1924.32 91.07

2008 73.55 59.00 47.14 179.70 1205.75 3307.82

2009 124.60 90.42 103.06 318.08 1407.87 3745.03

2010 241.58 144.70 132.47 518.75 650.55 4655.15

Various sources; data used are in million GHS


117

5.5

6.0

6.5

7.0

7.5

8.0

8.5

9.0

90 92 94 96 98 00 02 04 06 08 10

LTTR

-.1

.0

.1

.2

.3

.4

.5

90 92 94 96 98 00 02 04 06 08 10

D(LTTR)

4.5

5.0

5.5

6.0

6.5

7.0

7.5

8.0

8.5

90 92 94 96 98 00 02 04 06 08 10

LCOTAX

-0.6

-0.4

-0.2

0.0

0.2

0.4

0.6

0.8

1.0

90 92 94 96 98 00 02 04 06 08 10

D(LCOTAX)

APPENDIX F: Graphs of Test For Unit Root

Graphs of Variables in Levels and at First Difference.

Total Tax Revenue

Company Tax


118

6.5

7.0

7.5

8.0

8.5

9.0

9.5

10.0

90 92 94 96 98 00 02 04 06 08 10

LMEXP

.00

.05

.10

.15

.20

.25

.30

.35

90 92 94 96 98 00 02 04 06 08 10

D(LMEXP)

5.0

5.5

6.0

6.5

7.0

7.5

8.0

8.5

90 92 94 96 98 00 02 04 06 08 10

LPYTAX

-.1

.0

.1

.2

.3

.4

90 92 94 96 98 00 02 04 06 08 10

D(LPYTAX)

.00

.05

.10

.15

.20

.25

.30

90 92 94 96 98 00 02 04 06 08 10

D(LCUPY)

5.5

6.0

6.5

7.0

7.5

8.0

8.5

9.0

90 92 94 96 98 00 02 04 06 08 10

LCUPY

Current Personal Income

Mineral Export

Pay-As-You-Earn Tax


119


120

-.1

.0

.1

.2

.3

.4

90 92 94 96 98 00 02 04 06 08 10

D(LROYTAX)

5.2

5.6

6.0

6.4

6.8

7.2

7.6

8.0

8.4

90 92 94 96 98 00 02 04 06 08 10

LROYTAX

-.4

-.3

-.2

-.1

.0

.1

90 92 94 96 98 00 02 04 06 08 10

D(LGDP)

8.6

8.7

8.8

8.9

9.0

9.1

9.2

90 92 94 96 98 00 02 04 06 08 10

LGDP

Royalty Tax

Gross Domestic Product


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