ABSTRACT

The economic growth and taxes are very important aspects in the development of any economy. This research analyses the tax rate that optimize economic growth in Kenya. The specific objectives of the study were to: To establish the effect of tax rate on economic growth in Kenya and to determine the tax rate that maximizes economic growth. This study adopts the Scully model and a balanced budget approach that is revenue being equal to expenditure using time series data from the period 1990 to 2013. Sources of data were Kenya National Bureau of Statistics (Economic Survey) and the World Development Indicators of the World Bank. The theoretical background and some major empirical as well as the applicability of the model to the tax rate and economic growth are critically reviewed. The diagnostic tests were conducted so as to ensure that the results from the regressions were not spurious. The multiple regression analysis was carried out using four main variables which included GDP, tax rate, government expenditure, Real GDP at previous period. The estimated model showed that GDP is a positive function of tax rate and a negative function of government expenditure and GDP at previous Period. The coefficients of the independent variables were significant and of the expected signs. The optimum tax rate was found to be 17 .3 per cent. Examining the historical data, the tax rates are below 17%. The study concludes that tax rate has a positive impact on economic growth and that economy has grown more slowly than it would have if the rate of taxation had been constrained to the growth-maximizing level.