Q. A decrease in tax to GDP ratio of a country indicates which of the following?

  1. Slowing economic growth rate
  2. Less equitable distribution of national income

Select the correct answer using the code given below.

  • 1 only
  • 2 only
  • Both 1 and 2
  • Neither1 nor 2

Answer: (a) 1 only

Tax-to-GDP Ratio:
  • The tax-to-GDP ratio measures a nation’s tax revenue relative to the size of its economy.
  • This ratio is used with other metrics to determine how well a nation’s government directs its economic resources via taxation.
  • Developed nations typically have higher tax-to-GDP ratios than developing nations.
  • Higher tax revenues mean a country can spend more on improving infrastructure, health, and education—keys to the long-term prospects for a country’s economy and people.
  • According to the World Bank, tax revenues above 15% of a country’s gross domestic product (GDP) are a key ingredient for economic growth and poverty reduction.
  • The tax-to-GDP ratio is used to compare tax receipts from year to year. As taxes are related to economic activity, the ratio should stay relatively consistent. When the gross domestic product (GDP) grows, tax revenue should increase as well.
  • Economic slowdown results in lower rates of growth, where unemployment usually rises, and consumer spending decreases. As a result, the tax-to-GDP ratio declines.
  • The less equitable distribution of national income is not directly related to decrease in tax to GDP ratio. Equal distribution of national income and resource allocation generally depends upon the economic planning of a country.
GDP:
  • The GDP measures the monetary measure of all “final” goods and services— those that are bought by the final user— produced in a country in a given period.
  • Four Key “Engines of GDP Growth”:
    • All the money Indians spent for their private consumption (that is, Private Final Consumption Expenditure or PFCE)
    • All the money the government spent on its current consumption, such as salaries [Government Final Consumption Expenditure or GFCE]
    • All the money spent towards investments to boost the productive capacity of the economy. This includes business firms investing in factories or the governments building roads and bridges [Gross Fixed Capital Expenditure]
    • The net effect of exports (what foreigners spent on our goods) and imports (what Indians spent on foreign goods) [Net Exports or NX].
  • Calculation of GDP:
    • GDP = private consumption + gross investment + government investment + government spending + (exports-imports)