Distributional Effects of Income Tax in Peru Compared with the rest of South America

Title: Distributional Effects of Income Tax in Peru Compared with the rest of South America


  • Problem Definition: South America has been incessantly treated to poverty levels that have adversely affected the nation in terms of economic and social welfare. Policy adaptation has been considered from the standpoint of negating economic disparities and increasing policy gaps that have resulted from questionable fiscal policies (Haughton & Shahidur 2009, p. 302-310). Government spending in most developing nations is sourced from taxes, whose redistribution effect is quite limited when compared with social spending. This is attributed to a highly informal economic sector, which acts as an active inhibitor as to the level of taxes that the government is able to source.
  • Issue Description: For an effectual analysis of the income inequality problem in South America, the study will focus on Peru as one of the worst hit nations in the region as compared to the rest for a comprehensive issue description. South America has a large informal sector measuring to thirty eight percent of the national GDP and a corresponding sixty percent of person-hours drawn from the productive labor component (Ghersi 2003, p.3). This factor indicates the limitation that South American nations have been facing in the taxation system as this has led to high inequalities mainly on the taxed populace, despite their income orientation, and the untaxed component. Although various policy reforms have been instituted in the taxation system, the inequality problem still lurks in the region due to the asymmetrical nature of the economy. Tax reforms have targeted two significant areas with the initial being the Value Added Tax (VAT). This component has been highly supported by many economic analysts as being a better measure towards the tax evaders notably in the informal sector. The second component has been the reduction of the income tax for higher levels of equity (Morley 1999, p.4-5). Peru has adopted both revisions in its tax system yet it still suffers the problem of high inequality as compared to the rest of South America. The study will primarily aim at assessing Peru’s tax amendment policy and the main causes of its ineffectuality in the alleviation of poverty and inequalities within the nation.

Theoretical Framework

  • Origin of the Problem: Peru’s taxation framework as noted by Webb (1977, p. 50-56) was established in the 1960s under Belaunde’s regime. Within the periods 1961 and 1969, the tax burden on the taxpayers actually increased with the average wage earners being most affected by eighty eight percent while the rich earners were only affected by thirty four percent. In this period, most tax rates were increased before the 1970 period where a superior tax system was instituted under Velasco’s leadership. Studies carried out by researchers have pointed towards Peru’s regressive tariff policy as the main cause of the nation’s inequality distributions. The framework mainly focused on achieving horizontal equity as opposed to vertical equity in the tariff payment system. This has led to a considerable inhibitor in the nature of income distribution as noted by Musgrave by the assertion that ‘the incidence of taxation in South America is regressive in the lower income groups’ (Webb 1977, p.45). Tax regression in Peru has been attributed to the fact that, the government has focused on the enhancement of sales taxes as opposed to personal income leading to a lower distributive ability (Musgrave & Musgrave 1995, p. V). Various Peruvian economic periods will be compared for an in-depth analysis of the various effects that the different tax reviews had on the distributional ability.

Literature Review

  • Aims of my Dissertation: The premise of the dissertation and methodology will be a systematic literature review on former studies that have analyzed the Peruvian problem with regard to poverty and distributive inequalities. This will be reviewed in a comparison to the rest of South America. The literature to be used for the tax system appraisal has to include quantifiable data that will contribute to the measurable elements that will be used to determine whether the tax system is regressive or progressive in nature. This follows the various debates that have been formulated as to the causative nature of the tax system and only empirical data can ascertain the nature of the policy framework. Various graphical and statistical measures that will be used to measure and analyze whether the tax policy is effectual or ineffectual in its redistribute potential will be:

Tax progression: it is a ratio used to quantify income tax in terms of proportionality. Upon computation, if the ratio results to one, then the distribution scale is termed as perfectly proportional. A high ratio is indicative of a progressive tax system whereas a low ratio denotes a regressive system.

Concentration curve: it is a graphical presentation, which maps concentration points hinged on cumulative income taxes measured by quantiles on the level of untaxed income. Evaluating the resulting curve against a Lorenz curve then indicates the nature of the tax system. Upon plotting both graphs in the same grid, if the Lorenz curve is below the concentration curve, then the tax system is regressive in nature. However, if the Lorenz curve is above the concentration graph, then the system is progressive.

Quasi-Gini coefficient: In some cases, the concentration and Lorenz curves tend to lack a defined relationship as to which curve lies above or below the other in a grid as they tend to overlap each other in different points. In such a case, the quasi-Gini coefficient is computed from the concentration curve and used to assess the tax nature (Haughton 2005, p.298-300). A high coefficient figure indicates a progressive income tax system while the inverse relation denotes a regressive policy.

Kakwani index: denoted by the symbol K. This statistical element compares the quasi-Gini coefficient of a taxed and untaxed income level. If the kakwani coefficient lies above zero, then the system is progressive while a less than zero measure is indicative of a retrogressive system.

Reynolds-Smolensky index: denoted by the symbols RS. A kakwani index accounts for the redistributive potential that the tariff policy bears (Mahon 2009, p.7). It is computed by getting the difference between the Gini co-efficient of untaxed income with the quasi-Gini coefficient of taxed income. A positive result yields the tariff nature as being progressive whereas a negative measure denotes a retrogressive system.

This literature will be employed in the determination of a superior distributive tax system for the Peruvian nation.

  • Objectives of my Dissertation: Upon the complete analysis of the Peruvian tax system and the identification of the problem, we will formulate an improved tax system for the nation that is based on the progressive nature. This will ensure enhanced income and welfare equality in the nation. Peer reviewed journals documenting various research studies will be used in the study for data extraction in the above named statistical measures. Books will be significantly employed in theory formulation for an in-depth analysis and explanation of the various economic phenomenon identified in the study. All internet sources will be acquired from credible sources for information precision. At least twelve core resources will be applied in the dissertation for a comprehensive study.


After the formulation of the problem and its analysis, effective recommendations will be given towards the end of the study based on Giugale, et al. publication, An opportunity for a different Peru: prosperous, equitable, and governable, tabled as a proposal for the World Bank. Other sources will also be very helpful in the formulation of the recommendations.


Bargain, O & Tim, O 2010, ‘Analysing the Effects of Tax-benefit Reforms on Income Distribution: A Decomposition Approach’, Journal of Economic Inequality, vol. 8, no.1, pp.1-21.

Cubero, R & Ivanna, VH 2010, ‘Equity and Fiscal Policy: The Income Distribution Effects of Taxation and Social Spending in Central America’, IMF Working Paper WP/10/ 112, viewed 17 February 2011, http://www.imf.org/external/pubs/ft/wp/2010/wp10112.pdf

Giugale, M, Vicente, C & John, N 2007, An opportunity for a different Peru: prosperous, equitable, and governable, World Bank Publications, Philadelphia.

Ghersi, E 2003, ‘The Informal Economy in Latin America’, The Cato Journal, vol. 17, no. 1, pp.1-9.

Haughton, J 2005, Tax and Expenditure Incidence in Peru, viewed 17 February 2011, www.comunidadandina.org/economia/fiscal_Haughton.pdf

Haughton, J & Shahidur, K 2009, Handbook on poverty and inequality, World Bank Publications, Philadelphia.

Jinemez, JP, Juan, CGS & Andrea, P 2010, ‘Tax gap and equity in Latin America and the Caribbean’, Public Finance and Administrative Reform Studies, vol.16, pp.1-44.

Mahon, J 2009, ‘Tax Reforms and Income Distribution in Latin America’, Latin America Studies Association, viewed 17 February2011

Minaya, LAA 2009, Latin America: equity and challenges. The case of Peru. United Nations Publication, Santiago.

Morley, SA 1999, ‘The Impact of Reforms on Equity in Latin America’, International Food Policy Research Institute: World Bank Working Paper, viewed 17 February 2011, siteresources.worldbank.org/INTPOVERTY/Resources/WDR/…/morley.pdflasa.international.pitt.edu/members/congress…/MahonJames.pdf

Musgrave, R & Musgrave, P 1995, Hacienda Publica: Teorica y Aplicada, McGraw-Hill Interamericana, Mexico.

Thomas, J 1990-1991, ‘Peru and the Informal Economy’, Third World Quarterly, vol. 12, no. 3/4, pp. 167-172.

Webb, R 1977, Government policy and the distribution of income in Peru, 1963-1973, Harvard University Press, Harvard.













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