**1. Introduction**

#### **1.1. Why taxation?**

Taxation is an important fiscal policy instrument at the disposal of governments to mobilise revenue and promote economic growth and development.1 Governments use tax revenue to carry out their traditional functions such as the provision of public goods and services; maintenance of law and order; defence against external aggression; and regulation of trade and business to ensure social and economic maintenance [1]. Effective tax revenue mobilisation reduces an economy's dependence on external flows which have been found to be highly volatile.2 Taxation also allows governments' greater flexibility in designing and controlling their development agenda; conditions states to improve their domestic economic policy environment, thus creating a conducive environment for the much-needed foreign direct investments; and strengthens the bonds of accountability between governments and the citizens [2]. The 2008/2009 global financial and economic crisis provided useful lessons for countries on the need to direct more attention to domestic resources mobilisation efforts, including through increasing tax revenues, and shift away from over-dependence on external financial flows and export revenues.<sup>3</sup>

of tax revenue is derived from indirect taxes while for developed countries two-thirds comes from direct taxes. They suggested however, that tax structure can change over time to maxi-

Taxation and Economic Growth in a Resource-Rich Country: The Case of Nigeria

http://dx.doi.org/10.5772/intechopen.74381

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The differing views of the effects of taxation of growth notwithstanding, important conceptual questions arise however, with respect to the optimal level of taxation for a defined objective function - whether growth or revenue generation; how taxation burden should be allocated among tax payers; the extent of state involvement in taxation; and how tax revenues should

Lindahl [9] attempted to address these questions using a model which allows for determination of the extent of state provision of goods and services and the relative tax shares of two individuals who are free to reveal their preferences for state services against corresponding tax liability. The central thesis of the Lindahl model is the voluntary exchange between the taxes paid by the two individuals and the services rendered by the state. The Lindahl model therefore sought to seek a solution for the following problems: the decision regarding the extent of state activity; allocation of the total expenditure among various goods and services;

From **Figure 1** below, if we assume a linear and homogenous production of goods and services, SS' is the supply curve of the state services while DDa and DDb are demand curves of two individuals - A and B; the vertical summation of which gives the [total] community's demand curve for state services—DDl. When ON is amount of the state services produced, A contributes NE; B contributes NF while NG represents the cost of supply. Since the state is not a profit maker, it increases its supply up to OM, at which level A contributes MJ while B contributes MR which when combined, equals the cost of supply—MP. P is therefore, the point at which equilibrium (SS = DD) is obtained on the basis of voluntary exchange of goods

mise the economic growth.

and services.

**Figure 1.** Lindahl model.

**1.2. Taxation–theoretical underpinnings**

be allocated among various public goods and services.

and allocation of tax burden among tax payers.

Although tax structures vary considerably across countries, the primary objective of any tax structure is to attain maximum revenue and economic growth with minimum distortions. Different countries have different philosophies about taxation and different methods of tax collection. In the same manner, countries have different uses for their revenue which affect growth differently [3]. Agell et al. [4] have argued that the different uses of total government expenditure affect growth differently and a similar applies to way tax revenue is raised. Romer [5] emphasises factors such as 'spill-over effect and learning by doing' by which firms' specific decisions to invest in capital and research and development, or investment in human capital, can yield positive external effects that benefit the rest of the economy. Solow [6], was the first to examine how taxation affects growth. He argued that steady state growth is not affected by tax policy; that is, tax policy, regardless of distortion, has no impact on long term economic growth rates, even if it reduces the level of economic output in the long term. On his part [7], argued that the different uses of total government expenditure affect growth differently and a similar argument applies to the way tax revenue is raised. The economic growth of Singapore for instance can be attributed to low rates of corporate and personal income taxes. Relatedly [8], argue that there exists a structural difference in taxation in developing countries and developed countries. For developing countries, they established that roughly two-thirds

<sup>1</sup> Whereas tax revenues are needed for public investments, including in productive and social and other sectors of the economy, taxation can also hamper growth, for instance, when corporate, income and capital gains taxes are so high that they serve as a disincentive for investments and do not attract the necessary skills; slow down growth in labour supply by disposing labour leisure choice in favour of leisure; discourage investments in research and development expenditures; and cause the flow of resources to other sectors that have lower productivity.

<sup>2</sup> External financial flows include foreign direct investments, portfolio investments, remittances and official development assistance

<sup>3</sup> The Nigerian economy has been negatively impacted by the recent significant fall of oil prices since June 2014 from the peak of \$114 per barrel to below \$30 per barrel in early 2016.

of tax revenue is derived from indirect taxes while for developed countries two-thirds comes from direct taxes. They suggested however, that tax structure can change over time to maximise the economic growth.
