Effects of Value Added Tax Increase on Households’ Welfare in South Africa

Abstract

In 2018, the South African government raised Value Added Tax by 1% to generate additional revenue due to sluggish economic growth. Nevertheless, it is essential to study how this tax increase affect the welfare of ordinary citizens. An increase in consumption tax significantly increases consumer prices and essentially reduces households' consumption. Purchasing nutrient-dense food could be negatively impacted by this. The objectives of this dissertation are to ascertain the impact of VAT on individual commodity prices, allocation trends of total consumption spending between commodity categories, households' welfare, and assessing whether zero-rating enhances welfare. The study used the panel survey (raw data), the National Income Dynamics Survey (wave 5) 2018 which provides data on households' expenditure on individual goods by total spending and income level, the actual price data, and the Consumer Price Index. Expenditure items from the survey were grouped to establish a framework of homogeneous groups of commodities and services that are regarded as a function of household consumption expenditure.

Quadratic Almost Ideal Demand System (QUAIDS) was employed. Compensating variation (CV) welfare measure was calculated to determine how variations in commodity prices affected households' welfare. Additionally, zero-rating analysis was conducted to evaluate whether zero-rated items enhanced welfare. The findings show that the Value Added Tax increase has changed the before VAT rise distribution of total consumption expenditures among commodity categories, as well as how prices and demand are structured. Equally, commodity price increases caused welfare losses for households in South Africa. The highest effect on households' welfare is the prices rise of food products and non-alcoholic refreshments; alcohol, cigarette, tobacco, and narcotics; housing utilities; and miscellaneous goods and services. The increase in prices of these commodity groups caused a drop in welfare by 3.6%, 1.7%, 2% and 5%. The slightest effect on households' welfare is the price increase of household contents and maintenance; health; apparel and footwear; and transportation. With a drop in welfare by 0.97%, 0.89%, 0.64%, and 0.18%. Regarding zero-rated commodity items, VAT zero-rating was progressive in both absolute and relative terms to the overall expenditure. Conversely, there are many challenges that must be tackled in the country, which could require additional tax revenues. The state may very well take into account the welfare effects of a change in indirect tax policy when it considers increased domestic revenue from indirect taxes. The findings of this study serve as a critical foundation for an empirical investigation to identify the welfare consequences. Additionally, these conclusions are a component of a larger inquiry into measurable assessments of policy alternatives to direct the VAT restructuring. Other academics and the government may use the estimated elasticities for purposes unrelated to the scope of this work, such as the empirical evaluation of policy amendments, policy about wealth-related matters, farmer, food and housing subsidies.

In addition, chicken that has been individually quick-frozen is advised to receive a zero rating. The report also suggests that the list of goods with zero ratings be widened to include more goods that the poor buy more regularly, including all varieties of bread, chicken, soaps, candles, medicines, and goods related to education (such as school uniforms). The expansion of zerorated commodity items will benefit all customers; however, a larger percentage of the poor's disposable income will go toward these expenditures. They would therefore benefit more from an extended list.