What Is the Tax-to-GDP Ratio?
A tax-to-GDP ratio is a gauge of a nation's tax revenue relative to the size of its economy as measured by gross domestic product (GDP). The ratio provides a useful look at a country's tax revenue because it reveals potential taxation relative to the economy. It also enables a view of the overall direction of a nation's tax policy, as well as international comparisons between the tax revenues of different countries.
- The tax-to-GDP ratio is a measure of 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 is able to 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, ultimately, poverty reduction.
Understanding the Tax-to-GDP Ratio
Taxes are a critical measure of a nation’s development and governance. The tax-to-GDP ratio is used to determine how well a nation's government directs its economic resources. Higher tax revenues mean a country is able to spend more on improving infrastructure, health, and education—keys to the long-term prospects for a country’s economy and people.
Tax Policy and Economic Development
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, ultimately, poverty reduction. This level of taxation ensures that countries have the money necessary to invest in the future and achieve sustainable economic growth. Developed countries generally have a far higher ratio. The average among members of the Organisation for Economic Co-operation and Development was 33.8% in 2019.
According to one theory, as economies become more developed and incomes rise, people generally begin to demand more services from the government, whether in healthcare, public transportation, or education. This would explain, for example, why the tax-to-GDP ratio in 2019 in the European Union, at an average of 41.4%, is so much higher than in Asia-Pacific, where tax-to-GDP ratios ranged from 11.9% in Indonesia to 35.4% in Nauru (and the majority of countries did not have a ratio as high as the OECD average of 33.8%).
The Direction of Tax Policy
Policymakers use the tax-to-GDP ratio to compare tax receipts from year to year because it offers a better measure of the rise and fall in tax revenue than simple amounts. Tax revenues are closely related to economic activity, rising during periods of faster economic growth and declining during recessions. As a percentage, tax revenues generally rise and fall faster than GDP, but the ratio should stay relatively consistent barring extreme swings in growth.
However, in cases of significant shifts in tax law or during severe economic downturns, the ratio can shift dramatically. For example, according to the OECD, the U.S.'s tax-to-GDP ratio fell more than any other OECD member in 2018. This was mostly a result of the $1.5 trillion tax cut signed by former President Donald Trump in 2017.
The tax-to-GDP ratio in the United States has decreased from 28.3% in 2000 to 24.5% in 2019. Over the same period, the OECD average in 2019 was slightly above that in 2000 (33.8% compared with 33.3%).
The United States ranked 32nd out of 37 OECD countries in terms of the tax-to-GDP ratio in 2019.
Among policymakers and economists, there has never been a consensus on the best tax policy for economic growth. On one side are those who believe increasing tax rates will generate desperately needed revenue and solve the ballooning U.S. debt problem. Conversely, there are those who believe that raising taxes is a bad idea and that lower rates increase revenues by stimulating the economy.
Tax to GDP Ratio FAQs
What Is a Tax-to-GDP Ratio?
The tax-to-GDP ratio is the ratio of the tax revenue of a country compared to the country’s gross domestic product (GDP). This ratio is used as a measure of how well the government controls a country's economic resources. Tax-to-GDP ratio is calculated by dividing the tax revenue of a specific time period by the GDP.
Does GDP Include Tax Revenue?
Tax revenue includes revenues collected from taxes on income and profits, social security contributions, taxes levied on goods and services, payroll taxes, and taxes on the ownership and transfer of property. Total tax revenue is considered part of a country's GDP. As a percentage of GDP, total tax revenue indicates the share of a country's output that is collected by the government through taxes.
What Is a Good Tax-to-GDP Ratio?
A tax-to-GDP ratio of 15% or higher ensures economic growth and, thus, poverty reduction in the long-term, according to the World Bank.
The tax-to-GDP ratio in the United States has decreased from 28.3% in 2000 to 24.5% in 2019.
How Do I Graph Tax Revenue as a Percentage of GDP?
The World Bank provides line graphs that reflect tax revenue as a percentage of GDP from 1972 to 2019 for selected countries and economies. The values on the horizontal axis (x-axis) are years. The values on the vertical axis (y-axis) reflect the percentage (of tax revenue compared to GDP). The plotted data points reveal the change over time in these values.
Do Tax Revenue and GDP Have a Direct Relationship?
Changes in the level of taxation in a country or an economy also impact its level of economic activity (and therefore, its GDP). Extensive research has been conducted on the relationship between tax policy, jobs, and economic growth by government departments and agencies, think tanks, and researchers in academia and the private sector.
The central question this research aims to answer is: Do tax rates result in economic growth or economic contraction (more jobs vs. fewer jobs)? GDP is usually considered the best measure of economic growth, specifically real GDP (which is an inflation-adjusted measure of GDP).
Tax rates for an American family with an average income have remained fairly stable over the long term. For example, it was around 21% in 1947 and stayed around there until the mid-1960s, when it dropped to between 16% and 19%. Rates stayed in the 16% to 19% range from the mid-1960s to the mid-1990s, approximately. From 2002 to 2015, the rate remained around 15.5%. In 1947, U.S. GDP was $243 billion. By 2017, U.S. GDP had climbed to approximately $18,905 billion, despite tax rates remaining fairly stable during this time period.
In addition, there were approximately 11 recessionary periods during this timeframe. From this perspective, tax rates on the average American family did not impact GDP in a meaningful way during this time period.
While it is true that either increasing or decreasing taxes (and tax revenues) has an impact on economic growth, there are clearly other factors that contribute more to the direction of the economy (including, but not limited to, interest rates set by the Federal Reserve and broader technological advancements in the workforce).
Where Does the United States Rank in Terms of Tax Revenue as a Percentage of GDP?
The United States ranked 32nd out of 37 OECD countries in terms of the tax-to-GDP ratio in 2019. In 2019, the United States had a tax-to-GDP ratio of 24.5% (the OECD average in 2019 was 33.8%). In 2018, the United States had the same ranking: 32nd out of the 37 OECD countries in terms of the tax-to-GDP ratio.
Which Countries Have the Highest and the Lowest Tax Burdens as a Percentage of GDP?
France has the highest tax burden as a percentage of GDP, at 46.2%. Denmark (46%), Belgium (44.6%), Sweden (44%), and Finland (43.3%) also have very high tax-to GDP ratios. Kuwait has the lowest tax burdens as a percentage of GDP, at 1.4%.
Where Does the U.S. Rank As Far as Corporate Tax Revenue as a Percentage of GDP?
Compared to other comparable economies, the U.S. collects fewer tax revenues. For example, in 2019, U.S. corporate tax revenues accounted for just 1% of GDP. Among the Group of 7 (G7) countries—Japan (4.2%), Canada (3.8%), the U.K. (2.5%), France (2.2%), Germany (2.0%), and Italy (1.9%)—U.S. corporate income tax revenue is the lowest., at 1%. The G7 countries are an informal grouping of wealthy democracies; the heads of government of these states (plus representatives of the European Union) meet at the annual G7 Summit.
In the late 1960s, the rate of U.S. federal corporate taxes reached its high. Since then, it has been on a decline. In fact, the current tax rate for corporations is less than half the size it was in the 1950s and 60s.
Can Raising Taxes Help the Economy?
In the short term (the next one or two years), cutting taxes is an effective way to boost demand in an economy. This is because consumers have more disposable income and businesses have more money to hire employers and invest in their business. Tax cuts increase worker's take-home pay. Tax cuts also increase firms’ after-tax cash flow. Businesses can use this extra cash flow to pay dividends and expand activity, and it can make hiring and investing more attractive. Tax increases have the opposite effect.
In the long term, tax reductions can induce people to work more, bring more low-skilled workers into the labor force, encourage saving, cause companies to invest domestically (rather than internationally), and encourage the creation of new ideas through research. However, tax reductions in the long term can also slow economic growth by increasing deficits. In addition, if tax cuts increase workers’ after-tax income, they may choose to work less, and this can negatively impact supply.
It is hard to analyze how raising taxes impacts the economy because policy changes never happen in a vacuum—there are a multiplicity of factors that contribute to economic growth (or the opposite), so it is hard to isolate the effects of raising (or lowering) taxes. However, historical data reveals that higher taxes are compatible with economic growth and job creation. If policymakers use the revenue from tax increases on reducing budget deficits, it can be very positive for the economy.