The Government of a developing country more often resorts to two major sources to raise the necessary funds for the developmental expenditure (i) Taxation, and (ii) Public borrowings which one is better is very difficult to say. Before reaching any conclusion, we are explaining the relative merits and demerits of taxation.
The merits and demerits of Taxation
Taxation it the prime source of revenue of a Government. It is compulsory payment by the citizen to the Government, the avoidance of which may lead to penalty. Tax-revenue generally determines the size or the public expenditure.
Merits of Taxation: The following arguments are advanced in favor of taxation as the sole source of revenue for developmental expenditure-
(i) It is a compulsory payment by the citizens and no one can avoid taxation. The Government may obtain necessary finance from this source for development purpose.
(ii) Taxation automatically puts a check on inflation because it leads to withdrawal of purchasing power to the Government and therefore leads to reduction in unnecessary consumption by the people.
(iii) By resorting to taxation, the Government saves itself from the burden of public borrowings in future, The burden of public borrowings can only be redeemed out of proceeds or tax-revenue. So, it is a method of debt redemption.
(iv) If developmental expenditure is exclusively financed by taxation, there is an automatic check of wastage because taxes cannot be levied and collected unlimited.
(v) Taxes are not to be repaid and therefore there is no question of burden of taxes on the Government.
Demerits of Taxation: The following arguments are adduced against taxation as the sole source of developmental finance-
(i) The taxable capacity of the people is not unlimited hence the entire development expenditure cannot be met through taxation alone.
(ii) Heavy taxation produces adverse effect on savings and consequently on production because the process of capital formation is impaired. As a result, the economic development is also affected adversely.
(iii) There is necessarily a time gap between the imposition of new taxes and their collection from the people. The Government revenue, therefore cannot be increased immediately by levying fresh taxes. Any contingencies or emergencies cannot be immediately met through taxation.