This paper is studying the impact of taxes and social contributions on the economic growth. We have development a model of economic growth under the incidence of tax revenues, using econometrical analysis (the Pool Data Model). With this mathematical relation we have quantified the connections intensity between taxes and economic growth in the case of European Union 25.Tax, Impact, Economic Growth, Econometrical Model

Crasneac, Alexandru Ocatavian

Dănuleţiu, Dan-Constantin

Mutaşcu, Mihai Ioan

English

Research Papers in Economics

LECTURER PhD MUTAŞCU MIHAI IOAN 
The West University of Timişoara, Faculty of Economics, Romania 
 
PhD candidate CRÂŞNEAC ALEXANDRU OCTAVIAN 
The West University of Timisoara, Faculty of Economics, Romania 
 
LECTURER PhD DĂNULEŢIU DAN-CONSTANTIN 
The University “December 1
st 1918” Alba Iulia, Faculty of Sciences, Romania 
 
 
THE TAXES IMPACT ON THE ECONOMIC GROWTH:  
THE CASE OF EUROPEAN UNION 
 
 
Abstract: This paper is studying the impact of taxes and social contributions on the economic growth. 
We  have  development  a  model  of  economic  growth  under  the  incidence  of  tax  revenues,  using 
econometrical analysis (the Pool Data Model). With this mathematical relation we have quantified the 
connections intensity between taxes and economic growth in the case of European Union 25.  
 
Keywords: Tax, Impact, Economic Growth, Econometrical Model 
 
JEL codes: H2, N1, C1 
 
1. INTRODUCTION 
 
Starting  from the distribution function of the public  finances, from  the  fiscal  policy and  the  tax 
multiplier, this paper analyses the impact of global tax burden on the GDP per capita in the European 
Union 25, for every member state. 
The  tax  multiplier  derives  from  the  investments  multiplier  used  in  keynesian  economics.    The 
investments multiplier calculates the changes in national income, determined by a change in the level 
of investments (measuring the increase in national income induced by an increase of one unit in level 
of investments). The tax multiplier determines the changes in national income induced by a change of 
one unit in the level of taxation. 
Starting from the keynesian general equilibrium equation, 
 
Y = C + I+ G                                                               (1) 
 
where, Y is the national income (GDP per capita), C private consumption , I private investments and 
G government expenditures. The private consumption is a function of disposable income (YD) and 
marginal propensity to consume (c): 
 
C = c x YD                                                                (2) 
 
Disposable income is the total amount of income that remains after paying all the taxes and can be 
written: 
 
YD = Y – T                                                               (3) 
 
when using the lump sum taxation (T – lump sum tax)  
or 
YD = Y – t x Y = Y x (1-t)                                                (4) 
 
when using a flat rate tax (t – flat rate tax).  
2
In the Keynesian general equilibrium equation we can substitute the consumption determined by the 
disposable income and the marginal propensity to consume with (3) and (4). The result is the tax 
multiplier under lump sum taxation and the tax multiplier under the flat rate taxation. 
 
A. The tax multiplier under lump sum taxation:  
 
Y = c x YD + I + G = c x (Y - T) + I + G                                (5) 
 
Y x (1 - c) = I + G – c x T                                             (6) 
 
Y =  T   x
c - 1
c
  -   G)     (I  x 
c 1
1
+
−
                                          (7) 
 
where,   
c 1
1
−
 is the government expenditures multiplier, and 
c - 1
c
  -    is the tax multiplier.  
From the equation number (7) we can depict the following remarks: 
- a raise in the level of  government expenditures determines  an increase of the national income 
measured by the government expenditures multiplier, while a raise in the lump sum tax causes a 
decrease of the national income measured by the tax multiplier; 
- both multipliers depend on the marginal propensity to consume, which is determined by various 
factors (economical, social, cultural, political and even historical factors).   
- the government expenditures multiplier is larger than the tax multiplier, and therefore, the effects 
induced to the national income by a change in government expenditures are greater then the ones 
induced by a change in the lump sum tax. 
B. The tax multiplier under flat rate taxation: 
 
Y = c x YD + I + G = c x (Y - t x Y) + I + G                                    (8) 
 
Y x (1 - c  + c x t) = I + G                                                   (9) 
 
Y =  G)     (I  x 
 t)   (1  x  c 1
1
    G)     (I  x 
 x t c     c 1
1
+
− −
= +
+ −
                              (10) 
 
In the (10) equation,   
 t)   (1  x  c 1
1
 
− −
 is the tax multiplier when using a flat rate taxation system. 
The resulting formula has the following interpretation: 
- an increase in the tax rate will cause a decrease in the level of national income, given by the level of 
the tax multiplier; 
- the tax multiplier depends on the marginal propensity to consume and the level of the tax rate. 
 
2. THEORETICAL FOUNDATION 
 
Thus, the economic connection between the tax burden and the national income (GDP per capita) is 
opposite, so raising the tax burden will decrease the GDP per capita.  
 
In order to analyze the connection between the tax burden (global tax burden and the tax burden of 
direct taxes, indirect taxes and social contributions) and the GDP per capita in the European Union, 
we have selected the 25 member states (until the 1
st of January 2007) in the following order: 1 – 
Belgium, 2 - France, 3 - Germany, 4 - Italy, 5 - Luxembourg, 6 - Netherlands, 7 - Denmark, 8 - 
Ireland, 9 – United Kingdom, 10 - Greece, 11 - Portugal, 12 - Spain, 13 - Austria, 14 - Finland, 15 -  
3
Sweden, 16 - Cyprus, 17 - Estonia, 18 - Latvia, 19 - Lithuania, 20 - Malta, 21 - Poland, 22 – Czech 
Republic, 23 - Slovakia, 24 - Slovenia and 25 - Hungary. 
 
3. THE MODEL  
 
The analyzed period is between 1995-2005
i, and the analysis method is econometrical modeling using 
the  EViews  5.0
ii  software.  This  software  allows  data  analysis  in  panel  system,  which  implies  a 
mixture of time and data series for different entities. 
 
The „Pool Date” regression model has the following construction:  
 
it it it it ε xX β α Y + + =                                                    (11) 
 
                i= 25 1,                                                                 (12) 
where, 
-  it Y - the dependent variable (GDP per capita); 
- α the coefficient of the free factor; 
-  i β  coefficients of independent variables; 
-  it X  the independent variables;  
-  it ε  random variable; 
- i number of “sections” based on witch the regression is made - 25 sections (number of member states 
in the European Union until the 1
st of January 2007); 
- t the time period (1995-2005). 
 
The model will quantify the correlation between GDP per capita and, on the one hand, global tax 
burden in every member state, and, on the other hand, tax burden of the direct taxes, indirect taxes and 
the social contributions. These fiscal constraints are a result of the action of the tax multiplier. “The 
gross domestic product, the base for measuring the results of economic activity, represents the gross 
added value of the final production of goods and services created during a specific period on the 
country’s  territory  and  is  destined  for  consumption,  investment,  increase  of  the  inventories  and 
export”.
iii  
Therefore, it is possible to construct a “Pool Date” regressive model for quantifying the impact of 
global tax burden (F) on GDP per capita. 
 
In this situation the model has the following configuration: 
 
t ε βxF α GDP + + =                                                     (13) 
 
In the same manner, for quantifying the impact of the burden of direct taxes (D), indirect taxes (I) and 
social contributions (A) on the GDP per capita, the mathematical relation will be: 
 
t 1 ε xA xI xD β α GDP + + + + = 3 2 β β                                      (14) 
 
1. Modeling the impact of global tax burden on the GDP per capita in the European Union - EU 
25.  After the required calculus, the results of the statistical tests are (Table 1): 
                                                
i  Data  source:  General  government  expenditure  and  revenue:  2005  data,  Statistic  in  focus  -  Economy  and  finance 
nr.19/2006, Eurostat, 2006. 
ii Copyright © 1994-2004 Quantitative Micro Software, LLC, All Rights Reserved. 
iii Băbăiţă Ilie, Duţă Alexandrina, Silaşi,Grigore, Imbrescu Ion, Macroeconomie, Ediţia a II-a, Editura Mirton, Timişoara, 
2003, pag.148.  
4
 
Table 1 
 
Modeling the impact of global tax burden on the GDP per capita 
in the European Union - EU 25 
 
  Dependent variable: GDP     
  Method: Pooled Least Squares     
  Sample: 1995 -2005     
  Included observations: 11     
  Cross-sections included: 25     
 Total pool observations: 275   
Variable  Coefficient  Standard error  t-Statistic  Probability 
1--F1  0,612659  0,014556  42,08992  0.0000 
2--F2  0,579335  0,014946  38,76077  0.0000 
3--F3  0,646098  0,016476  39,21485  0.0000 
4--F4  0,557743  0,015772  35,36382  0.0000 
5--F5  1,032385  0,016190  63,76772  0.0000 
6--F6  0,605504  0,016690  36,27891  0.0000 
7--F7  0,604276  0,013458  44,89947  0.0000 
8--F8  0,752749  0,021207  35,49494  0.0000 
9--F9  0,755075  0,018393  41,05224  0.0000 
10--F10  0,300072  0,018664  16,07784  0.0000 
11--F11  0,279380  0,018902  14,78038  0.0000 
12--F12  0,406779  0,019117  21,27872  0.0000 
13--F13  0,586640  0,014531  40,37061  0.0000 
14--F14  0,514554  0,015292  33,64963  0.0000 
15--F15  0,520654  0,012908  40,33573  0.0000 
16--F16  0,377933  0,021471  17,60211  0.0000 
17--F17  0,124130  0,019688  6,304762  0.0000 
18--F18  0,098097  0,019873  4,936133  0.0000 
19--F19  0,109027  0,022313  4,886220  0.0000 
20--F20  0,265697  0,021881  12,14295  0.0000 
21--F21  0,112576  0,017890  6,292721  0.0000 
22--F22  0,148715  0,018038  8,244322  0.0000 
23--F23  0,106878  0,019024  5,618144  0.0000 
24--F24  0,234974  0,016699  14,07114  0.0000 
25--F25  0,117143  0,017016  6,884330  0.0000 
R-squared  0,964112  Akaike info criterion  4,520371 
Adjusted R-squared  0,960667 
 
Schwarz criterion   
4,849168 
Standard Error of regression  2,221078  F-statistic  279,8394 
Durbin-Watson  2,135050  Probability (F-statistic)  0,000000 
 
From Table 1 we can depict the following conclusion:  
- The values of the standard errors and the coefficients are inferior, in modulo, to the coefficient 
values, which imply that they are correctly estimated, conclusion empowered by the minimum levels 
of the probability;    
- The R-squared, taking a value of 96,4%, demonstrate that the statistical connection between the 
dependent variable GDP and the independent F is very strong, any change in the tax burden resulting 
in a change of the GDP in a similar ratio;  
5
- the Durbin-Watson test, with a value slightly above the critical level 2, indicates that residual values  
are not interrelated. 
Consequently, considering especially the result of the Durbin-Watson test, we can appreciate that the 
model is suitable for describing, in the case of the European Union, the connection between the global 
tax burden and the GDP per capita for every member state.  
As a result, the model can be written as: 
 
GDP1 = 0,6126594272*F1 
GDP2 = 0,579334739*F2 
GDP3 = 0,6460982952*F3 
GDP4 = 0,557742759*F4 
GDP5 = 1,032384844*F5 
GDP6 = 0,6055044525*F6 
GDP7 = 0,6042759975*F7 
GDP8 = 0,7527491562*F8 
GDP9 = 0,7550753937*F9 
GDP10 = 0,3000720932*F10 
GDP11 = 0,2793799507*F11 
GDP12 = 0,4067790207*F12 
GDP13 = 0,586639586*F13 
GDP14 = 0,5145535073*F14 
GDP15 = 0,5206540532*F15 
GDP16 = 0,3779328815*F16 
GDP17 = 0,1241299705*F17 
GDP18 = 0,09809692086*F18 
GDP19 = 0,1090268134*F19 
GDP20 = 0,2656974544*F20 
GDP21 = 0,1125757997*F21 
GDP22 = 0,1487149282*F22 
GDP23 = 0,1068783379*F23 
GDP24 = 0,2349740769*F24 
GDP25 = 0,1171430634*F25                                               (15) 
 
2.  Modeling  the  impact  of  tax  burden  generated  by  direct  taxes,  indirect  taxes  and  social 
contributions on the GDP per capita in the European Union - E.U. 25. After the required calculus, 
the results of the statistical tests are (Table 2): 
 
Table 2 
  
6
Modeling the impact of tax burden generated by direct taxes, indirect taxes and social 
contributions on the GDP per capita in the European Union - E.U.25. 
 
 
  Dependent variable: GDP     
  Method: Pooled Least Squares     
  Sample: 1995 -2005     
  Included observations: 11     
  Cross-sections included: 25     
 Total pool observations: 275     
  Dependent variable: GDP   
Variable  Coefficient  Standard error  t-Statistic  Probability 
          D?  1.616228  0.093802  17.23019  0.0000 
I?  -0.832092  0.124468  -6.685173  0.0000 
A?  0.695854  0.101890  6.829464  0.0000 
         
R squared  0.545954  Akaike info criterion  6.898169 
Adjusted R squared  0.542616  Schwarz criterion  6.937625 
Standard Error of 
regression  7.574001  F-statistic  163.5294 
Durbin-Watson  2.101448  Probability (F-statistic)  0.000000 
 
From Table 1 we can depict the following conclusion:  
- The values of the standard errors and the coefficients are inferior, in modulo, to the coefficient 
values, which imply that they are correctly estimated, conclusion empowered by the minimum levels 
of the probability; 
- The R-squared, taking a value of 54,5%, demonstrate that the statistical connection between the 
dependent variable GDP and independent variables D, I and A is significant, any change in the tax 
burden resulting in a change in GDP per capita; 
- the Durbin-Watson test, having a value slightly above the critical level 2, indicates that residual 
values are not interrelated. 
 
As a result of the statistical tests, the model is suitable for describing, in the case of European Union, 
the  connection  intensity  between  the  tax  burden  of  the  direct  taxes,  indirect  taxes  and  social 
contributions and the GDP per capita. 
Consequently, using the resulting coefficients, the model can be written: 
 
GDP = 1,616228194*D – 0,8320918247*I + 0,6958540987*A                   (16) 
 
4. DISCUSSIONS  
 
The first model illustrates the fact that, surprisingly, for the member states of the European Union, 
global tax burden has a stimulation effect on the economic growth, rather than a prohibitive one, as a 
result of the “income effect”. Accordingly, we can observe: 
- this effect is higher in Luxemburg, where an increase of 1% in the tax burden level generates an 
increase of GDP per capita of 1,03%; 
- the income effect has a slightly lower intensity in Ireland and United Kingdom, where a rise in the 
global tax burden of 1% produces an increase in GDP per capita around 0,7%; 
- in countries such as: Belgium, France, Germany, Italy, Netherlands, Denmark, Austria, Finland and 
Sweden, an increase in the tax burden of 1% generates an increase in GDP per capita of 0,5-0,6%; 
- in the other states income effect is much weaker, the smallest level being recorded in Latvia, where a 
rise in taxation of 1%  generates only a insignificant rise of 0,09% in GDP per capita.  
7
After studying the results of the second econometrical model, we can observe that, for the entire 
European Union, the income effect is present only in the case of direct taxes and social contributions. 
For the indirect taxes the effect is opposite. Thus, a rise of 1% in the burden of direct taxes and social 
contributions generates an increase of 1,61% of the GDP per capita, and 0,69% in the case of social 
contributions. Increasing the indirect tax’s burden with 1% produces a decrease of 0,83% in GDP per 
capita. 
 
5. CONCLUSION 
 
The results of the econometrical models allow us to conclude that, in the case of European Union (EU 
25), the tax policy encourages  economic growth when using direct taxes and contributions, with 
different intensity among the member states, as a result of the authorities political choices. Moreover, 
the  result  of  the  paper  empowers  the  idea  of  the  tax  harmonization,  in  contrast  with  the  “tax 
competition”.  
 
REFERENCES 
 
1. Arrow Kenneth, 1963, Social choice and individual values, University Press, Yale New Haven. 
2. Băbăiţă Ilie, Duţă Alexandrina, Silaşi,Grigore, Imbrescu Ion, 2003, Macroeconomie, Ediţia a II-a, 
Ed. Mirton, Timişoara,. 
3. Inman Robert, Rubinfeld Daniel, 1991, Fiscal federalism in Europe: lesson from the United States 
experience, Working Paper, University of California, Berkley. 
4. Keynes John Maynard, 1970, Teoria generală a folosirii mâinii de lucru, a dobânzii şi a banilor, 
Ed. Ştiinţifică, Bucureşti. 
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8. Talpoş Ioan, Mutaşcu Mihai, 2007, Impactul fiscalităţii asupra creşterii economice în Uniunea 
Europeană, Conferinţa Internaţională FIBAS, Iaşi. 
9. Talpoş Ioan, 1995, Finanţele României, Vol.I, Ed. Sedona, Timişoara. 
10. ***, General government expenditure and revenue: 2005 data, Statistic in focus - Economy and 
finance nr.19/2006, Eurostat, 2006. 
 
 
 

Duţă Alexandrina, Silaşi,Grigore, Imbrescu Ion,

Fiscal federalism in Europe: lesson from the United States experience, Working Paper,

government expenditure and revenue:

Impactul fiscalităţii asupra creşterii economice în Uniunea Europeană, Conferinţa Internaţională FIBAS,

Social choice and individual values,

Teoria generală a folosirii mâinii de lucru, a dobânzii şi a banilor,

THE TAXES IMPACT ON THE ECONOMIC GROWTH: THE CASE OF EUROPEAN UNION

THE TAXES IMPACT ON THE ECONOMIC GROWTH: THE CASE OF EUROPEAN UNION

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