Interest income taxation and household saving behavior in less-developed economies: An empirical investigation

This study is an attempt to fill the existing gap on studies on taxation and household saving behavior in the less developed countries (LDCs). In particular, it seeks to answer two main questions: whether household saving in the LDCs is responsive to interest income tax rate changes and whether the existing interest income tax systems in the LDCs are efficient in the sense of not seriously distorting economic decision-making by households and individuals.; In carrying out the investigation, the study builds an econometric model based on utility maximization by a two-period lived representative individual. The model is then tested using annual time-series data for Malawi, panel data for a selected southern African countries, and data for a cross-sample of LDCs drawn from Africa, Asia, and Latin America. The regression results are employed to compute uncompensated and compensated real post-tax interest rate elasticities and interest income tax rate elasticities of per capita real household saving for the sampled LDCs. All the estimated compensated and uncompensated elasticities are found to be statistically not different from zero at the 5% level of significance. Hence, it is concluded that per capita real household saving in the LDCs is not sensitive to changes in the real post-tax rate of return and that the current interest income tax systems in the LDCs are efficient in that they do not substantially distort economic incentives.; The findings of this study have implications for both tax policy reform programs and economic policy formulation in general in the LDCs. For instance, the finding that household saving in the sampled LDCs is not responsive to real post-tax interest rate changes implies that altering interest income tax rates and the various tax preferences for saving in the sampled LDCs may not be effective in influencing household saving behavior in these countries. Secondly, given the finding that interest income tax systems of the sampled LDCs do not seriously distort economic decision-making by agents and that the primary objective of the tax system is to generate revenue then interest income tax systems of the sampled LDCs may be used to raise revenue in a non-distorting way.