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What Is Tax-To-GDP Ratio?
The tax-to-GDP ratio is an economic measurement that compares the amount of taxes collected by a government to the amount of income that country receives for its products. That income is measured in terms of the gross domestic product, or GDP, which is the sum of all products and goods sold, personal and government investment, and net exports. By comparing this amount to the amount that is collected in tax revenue, economists can get a rough idea of how much the economy of a specific government is fueled by its tax collection. It is important to note that comparing the tax-to-GDP ratio of different countries can be misleading because circumstances within each country are unique and contribute to the overall economic climate.
National economies are spurred by how much people spend and the prices of the products they desire. Another major factor that can be overlooked is the tax revenue collected by governments. These taxes can be direct, like the ones levied on individuals and corporations for the income they make, or indirect, like levies or customs on goods sold. How much this tax revenue stimulates an economy is what economists hope to find when they study the tax-to-GDP ratio.
As an example of how the tax-to-GDP ratio is calculated, imagine a hypothetical country that uses the Dollar, which is the monetary system of the United States. In a certain period of time, this country has a gross domestic product of $1,000,000 US Dollars (USD). During that same time, it has collected revenue of $100,000 USD. The ratio in this case would be $100,000 USD divided by $1,000,000 USD, which comes to 0.10, or 10 percent.
Gross domestic product is measured by totaling all of the income gained from products sold in a country, with net exports included in that sum as well. Most tax revenues come from those levied on individuals and corporations. For that reason, a country with high tax rates tends to have a high tax-to-GDP ratio.
It is not always helpful to look at the tax-to-GDP ratio of a single country in comparison to other countries as an indicator of economic standing. Many other factors can affect an economy, such as how much debt the country has incurred to spur its economy or how inflation is affecting spending. Developed countries will also tend to have higher ratios than developing countries. The best way to use this ratio is to study how it is grown or fallen in a certain country, and compare that the country's overall economic health in that period.
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Discussion Comments
@Ana1234 - That doesn't take into account the ongoing effects of widespread literacy though. You aren't just paying for the library so that you can take out books. You're also paying for all the programs that ensure children have something to do after school and have more places to study, that researchers have access to the information they need without having to pay for it, and that human knowledge in general is distributed fairly and not according to wealth and privilege.
I don't think taxing people is ever a perfect system either, but it can't be seen as a one step process. The more money the government spends on infrastructure, the richer the country as a whole can become. That is why the relationship between tax and GDP is important, but it needs to be seen in context.
@Iluviaporos - Firstly, that correlation isn't going to be accurate because not all governments are equal. There are plenty of governments that collect taxes solely to fatten the paychecks of the people who work in government.
And even in places where it is being spent on government services, I don't see why it's better for other people to decide where my money should be going. Is there really a big difference between my taxes going to pay for a library and my being able to keep them and rent my own books? If a library was run as a rental place, then it would probably be a lot more efficient.
I think it would be pretty useful to look at this ratio and compare it to the well being of the people in the country. Places with higher taxes often have far more stability, because those taxes get spread among the people in the form of health care and education and infrastructure and so forth.
Unfortunately, politicians like to use taxes as a campaign slogan and promise to lower them because it sounds good in the short run for individuals. They don't take into account that those taxes are being used for the good of everyone in the community.
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