The impacts of tax incentives in attracting foreign direct investment in Ethiopia

The impacts of tax incentives in attracting foreign direct investment in Ethiopia

This study examines the impacts of tax incentives in attracting FDI in Ethiopia from 1992 to 2013. The purpose of this research is to examine the inconsistent empirical evidence on the use of tax incentives in attracting FDI. The study adopts a mixed methods research where primary data is collected using unstructured interview with ERCA and MoFED officials in addition to this secondary data is also collected from various sources such as ERCA, MoFED, EIA, World Bank, Freedom House. Based on the time series analysis, the study found that, corporate tax rate has a negative and significant impacts on FDI (in aggregate) in Ethiopia while from the control variable inflation has a negative and significant impact on FDI (in aggregate) but GDP growth rate, political stability and trade openness found to be insignificant in attracting FDI in Ethiopia. Based on the random effect model, the study found that, tax holiday has positive and significant impacts on FDI (at sector level) but customs duties founds to be insignificant. The control variables, FDI lag and exchange rate have also a significant and positive impact on FDI at sector level but transport service and reserve as a percentage of GDP founds to be insignificant factors in attracting FDI at sector level in Ethiopia. The trends of marginal effective tax rate of Ethiopia also shows that, the country is ranked 90th from 90 selected countries in the word with METR of -3.5. Hence the study suggests reducing the corporate tax rate and giving tax holiday exemptions with no further incentives on customs duties. Considering non tax factors, the country should improve its macroeconomic stability using inflation rate and exchange rate. The researcher also recommends care should be taken when giving tax incentives since further reduction of tax rates and additional tax exemptions will erode the revenue base of the country. The country should start incorporating tax expenditure report in the budget preparation