Tax Revenue and Economic Performance in Malaysia: A Time Series Analysis

Abstract

Taxation serves as the primary source of government revenue and holds significant connections with economic performance across many nations. This study aims to explore the long-term relationship between economic performance and tax revenue in Malaysia, a developing country experiencing dynamic economic progress. To achieve this, we employed structural break effects in conjunction with the autoregressive distributed lag cointegration analysis and causality analysis. The empirical findings from our study effectively capture the long-term relationship between economic performance and tax revenue in Malaysia. By utilizing the autoregressive distributed lag cointegration approach, we were able to account for the presence of structural breaks, which can significantly influence the stability and accuracy of long-term relationships in time series data. This method allowed us to robustly estimate the cointegration between the two variables, ensuring that the long-run nexus is not distorted by potential structural changes in the economy. Additionally, our causality analysis revealed a bidirectional causality between economic performance and tax revenue. This means that not only does economic performance influence tax revenue, but tax revenue also impacts economic performance. This bidirectional relationship suggests a mutually reinforcing cycle where improvements in economic performance enhance tax revenue, and increased tax revenue further supports economic growth, ultimately leading to long-term sustainability. Our findings have important implications for policymakers in Malaysia. Understanding the long-term interdependence between tax revenue and economic performance can aid in formulating fiscal policies that optimize revenue collection while fostering economic growth. The bidirectional causality highlights the necessity of a balanced approach that considers both aspects to achieve sustainable economic development. The implications of our research extend beyond Malaysia, offering a framework that can be applied to other developing nations seeking to understand and enhance the interplay between taxation and economic performance. This study contributes to the broader literature by providing robust empirical evidence and practical recommendations for achieving long-term fiscal and economic sustainability.