Pakistan Institute of Development Economics



An Econometric Estimation of Tax-discounting in Pakistan

The debt neutrality hypothesis which has been a source of major controversies in the theory of public finance, and macroeconomics has at the same time generated a vast literature on the implications of budgetary deficits and public debt on various subsectors/ variables of the economy, such as inflation, interest rates, current account deficit, etc. Tax discounting has been one of the fields of research associated with debt neutrality. The econometric estimation of some of the standard models of taxdiscounting has shown that consumer response to fiscal policy in Pakistan reflects neither the extreme Barro-like rational anticipation of future tax liabilities nor the Buchanan-type extreme fiscal myopia. It broadly follows a middle path between these extremes. The controversy relating to debt neutrality is quite old in economic theory. However, due to its serious and far-reaching implications for the formulation of fiscal policy and macroeconomic management, the issues of debt neutrality have assumed a foremost position in economic theoretisation and empirical testing. This controversy is based on two important questions: (a) Who bears the burden of the debt? (b) Should debt be used to finance public expenditure? The first question centres on whether the debt can be shifted forward in time, while the second question explores whether taxation is equivalent to debt in its effects on the national economy.

Aqdas Ali Kazmi