The incidence of VAT reforms in electricity markets: Evidence from Belgium

In April 2014, the Belgian government reduced the VAT rate on the electricity price from 21% to 6% to support low-income families. In September 2015, the tax cut was repealed, and the VAT rate was reinstated to 21% in the context of a change of government. This paper investigates the impact of such temporary and (plausibly) exogenous VAT reform on the Belgian electricity market. We study the pass-through of the VAT reform to electricity prices and the effect of this (exogenous) price change on electricity demand. We estimate the VAT pass-through on residential electricity prices by a difference-in-differences method, using business electricity prices (not subject to VAT) as a control group. Our findings reveal that both the tax cut and the tax hike were entirely shifted to the electricity price (100% pass-through). To assess the impact of the VAT change on demand, we perform a counterfactual demand analysis of the electricity flowing monthly over the grid at the network operator level. Exploiting VAT and non-VAT related price variations, our results show a price elasticity of residential demand for electricity between-0.09 and-0.17. Interestingly, we also find that demand reacted quickly and symmetrically to the VAT cut and the subsequent VAT hike.(c) 2021 Elsevier B.V. All rights reserved.

Automated summary

This paper investigates the impact of VAT reform on the Belgian electricity market, finding that changes in the VAT rate were fully passed on to electricity prices and that electricity demand has a certain elasticity in response to price changes.