Moderating effect of Investment Climate on the relationship between Tax Incentives and Foreign Direct Investments among the East Africa Community Partner States

Abstract

Countries around the world employ different efforts aimed at attracting more FDI, top most being tax incentives. Appropriate fiscal policy framework establishes tax incentive that improves country’s investment climate. However, tax incentives may at times not adequately compensate for poor investment climate in developing countries resulting from poor infrastructure, lack of trade openness, weak judicial system, small market size and most importantly political instability. Therefore, this study sought to determine the moderating effect of investment climate on the relationship between tax incentives and FDI among the East Africa Community partner states. The study was carried out using data relating to the five states in the East Africa Community: Tanzania, Rwanda, Kenya, Burundi, and Uganda. Secondary data covering a period of 16 years from 2002 to 2017 was used. Proxies of tax incentives were tax holidays, period of losses carried forward and investment allowances. Indicators of investment climate were Market size, Electricity supply, Political stability, and Corruption and Trade openness. The study found that corruption negatively and significantly influence the relationship between tax incentives and FDI. However the other indicators of investment climate: Political stability, electricity supply and trade openness did not influence the relationship between tax incentives and FDI among East African countries. The conclusion of the study was that increase in corruption levels in EAC partner state will result in reduction of FDI. Hence, the study recommends that in order to encourage foreign direct investments in the region the leadership of the East Africa Community partner states should work towards eradicating corruption.

Keywords: Investment Climate, Tax Incentives, Foreign Direct Investment, East Africa Community Partner States