The remainder of Figure 1, panels (c) and (d), shows results for a sample of advanced economies. In advanced economies, the impact of VAT increase announcements is never statistically different from zero along the distribution of fiscal space, in contrast with the results for the emerging market sample. A similarly divergent pattern for advanced and emerging economies is also found plotting the marginal effects of a VAT increase along the distribution of inflation. In emerging economies, I find that at higher rates of inflation, a VAT increase announcement has a larger (and statistically significant) marginal effect on index returns than at lower rates of inflation.
Next, I develop a firm-level specification in order to account for the role of firm-level characteristics in the financial market response to VAT policies. Figure 2 shows the marginal effect of a VAT increase announcement along the distribution of firm-level debt, measured as the logarithm of long-term debt and short-term debt separately. In Figure 2, Panels (a) and (b) show that for emerging economies, within a range of relatively high-corporate debt, there is a positive and statistically significant impact of a VAT increase announcement on firm-level equity returns. In contrast, the impact of a similar announcement in advanced economies is never statistically significant.
Figure 2: Marginal Effects of a VAT Increase along the Distribution of Corporate Debt
Source : blogs.worldbank.org