Why Tax Incentives Don't Promote Investment in Brazil

This paper discusses the tax issues contributing to the poor Brazilian investment performance. More precisely, the purpose of this paper is threefold. First, the paper develops an analytical framework illustrating the tax design issues reducing the incentive to invest in Brazil. The standard neo-classical framework is adapted to reflect the major characteristics of the Brazilian tax system leading to distortions in the savings and investment decisions. It allows the computation of the marginal effective tax rates (MERT) on capital. The MERTs measure the size of the distortion introduced by taxes in the Brazilian capital market. Second, the computation of the MERT for various types of investment projects is used to show that the current level of taxation of capital in Brazil is unusually high by international standards, with and without tax incentives. Furthermore, the simulations show that the plethora of tax incentives introduced over time to alleviate that burden have lead to complex, inefficient and largely evaded taxes on capital, yielding little revenue without increasing investment. Third, the paper suggests that a reform of the taxation of capital should be a high priority if a recovery of investment and tax revenue is to be achieved by Brazil.