Informality, Governance Institutions and Tax Revenue Performance in Africa

Abstract

Most countries in Africa are faced with the challenges of low tax revenue, weak governance institutions and large sizes of informal economy. The characteristics of economic activities in the informal sector and prevalence of weak governance institutions pose serious challenges for government authorities in the respective countries in  mobilising tax revenue. This paper examines the impact of informality and its interaction with governance institutions on tax revenue performance in African countries. The extent of informality is measured by multiple indicators multiple causes model-based (MIMIC) estimates of informal output as percentage of official gross domestic product (GDP) and self-employment as a percentage of total employment, and tax performance is expressed as percentage share of tax revenue in the GDP. A dynamic panel data model was specified and estimated using the Least Squares Dummy Variable Corrected (LSDVC) method, and data from 20 African countries for the period of 1996 to 2022. The findings suggest that informality has a negative impact on tax revenue performance. However, improvement in governance institutions could moderate the negative effects of informality on tax revenue.  Therefore, African countries need to improve and strengthen governance institutions to dampen the negative effect of informal economic activities on their tax revenue mobilisation efforts.