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What Does it Cost Society to Raise a Dollar of Tax Revenue? The Marginal Cost of Public Funds

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Author Info

  • Bev Dahlby

    (University of Alberta)

  • Ergete Ferede

    (Grant MacEwan University)

Abstract

The marginal cost of public funds measures the welfare loss a society incurs in raising an additional dollar of tax revenue. Tax increases distort economic decisions and erode tax bases because of tax avoidance and tax evasion by taxpayers. This Commentary uses econometric estimates of the effects of higher provincial tax rates on the provinces’ corporate income tax, personal income tax, and sales tax bases to calculate the marginal cost of public funds (MCF) for these taxes. The results indicate that the cost of increasing provincial tax revenues through a corporate tax rate increase is very high, and in some provinces, corporate tax rate reductions in 2006 would have increased the present value of the provincial government’s total tax revenues. The results also suggest that significant welfare gains would accrue from reducing provincial corporate income tax rates. As well, increasing provincial corporate and personal income tax rates can cause significant reductions in federal tax revenues because the federal and provincial governments levy taxes on the same tax bases. Finally, Canada’s system of the equalization grants might reduce the perceived MCF of recipient provinces.

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Bibliographic Info

Article provided by C.D. Howe Institute in its journal C.D. Howe Institute Commentary.

Volume (Year): (2011)
Issue (Month): 324 (March)
Pages:

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Handle: RePEc:cdh:commen:324

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Related research

Keywords: Fiscal and Tax Competitiveness; marginal cost of public funds (MCF);

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References

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  1. Michael Smart, 2007. "Raising taxes through equalization," Canadian Journal of Economics, Canadian Economics Association, Canadian Economics Association, vol. 40(4), pages 1188-1212, November.
  2. David Longworth, 2010. "Warding Off Financial Market Failure: How to Avoid Squeezed Margins and Bad Haircuts," C.D. Howe Institute Backgrounder, C.D. Howe Institute, C.D. Howe Institute, issue 135, December.
  3. de la Grandville,Olivier, 2009. "Economic Growth," Cambridge Books, Cambridge University Press, Cambridge University Press, number 9780521725200.
  4. Jens Arnold, 2008. "Do Tax Structures Affect Aggregate Economic Growth?: Empirical Evidence from a Panel of OECD Countries," OECD Economics Department Working Papers 643, OECD Publishing.
  5. Sam Bucovetsky & Michael Smart, 2006. "The Efficiency Consequences of Local Revenue Equalization: Tax Competition and Tax Distortions," Journal of Public Economic Theory, Association for Public Economic Theory, vol. 8(1), pages 119-144, 01.
  6. Richard M. Bird & Michael Smart, 2008. "The Impact on Investment of Replacing a Retail Sales Tax by a Value-Added Tax: Evidence from Canadian Experience," Working Papers Series, Rotman Institute for International Business, Joseph L. Rotman School of Management, University of Toronto 15, Rotman Institute for International Business, Joseph L. Rotman School of Management, University of Toronto, revised Jun 2008.
  7. de la Grandville,Olivier, 2009. "Economic Growth," Cambridge Books, Cambridge University Press, Cambridge University Press, number 9780521898010.
  8. Angelo Melino, 2011. "Moving Monetary Policy Forward: Why Small Steps - and a Lower Inflation Target - Make Sense for the Bank of Canada," C.D. Howe Institute Commentary, C.D. Howe Institute, issue 319, January.
  9. Marko Köthenbürger, 2002. "Tax Competition and Fiscal Equalization," International Tax and Public Finance, Springer, Springer, vol. 9(4), pages 391-408, August.
  10. Philippe Bergevin & David Laidler, 2010. "Putting Money Back into Monetary Policy: A Monetary Anchor for Price and Financial Stability," C.D. Howe Institute Commentary, C.D. Howe Institute, issue 312, October.
  11. Philippe Bergevin & William B.P. Robson, 2011. "The Costs of Inflexible Indexing: Avoiding the Adverse Fiscal Impacts of Lower Inflation," C.D. Howe Institute Commentary, C.D. Howe Institute, issue 322, February.
  12. Bev Dahlby, 2008. "The Marginal Cost of Public Funds: Theory and Applications," MIT Press Books, The MIT Press, The MIT Press, edition 1, volume 1, number 0262042509, December.
  13. John Richards, 2011. "School Dropouts: Who Are They and What Can Be Done?," e-briefs, C.D. Howe Institute 109, C.D. Howe Institute.
  14. Kevin D. Moore & William Robson & Alexandre Laurin, 2010. "Canada’s Looming Retirement Challenge: Will Future Retirees Be Able to Maintain Their Living Standards upon Retirement?," C.D. Howe Institute Commentary, C.D. Howe Institute, issue 317, December.
  15. Alexandre Laurin & William B.P. Robson, 2011. "A Faster Track to Fiscal Balance: The 2011 Shadow Budget," C.D. Howe Institute Commentary, C.D. Howe Institute, issue 320, February.
  16. Jotham Peters & Chris Bataille & Nic Rivers & Mark Jaccard, 2010. "Taxing Emissions, Not Income: How to Moderate the Regional Impact of Federal Environment Policy," C.D. Howe Institute Commentary, C.D. Howe Institute, issue 314, November.
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Cited by:
  1. Alex Laurin & William Robson, 2013. "Prudence and Opportunity: A Shadow Federal Budget for 2013," C.D. Howe Institute Commentary, C.D. Howe Institute, issue 375, March.
  2. Finn Poschmann & Alexandre Laurin, 2011. "The Time is Still Right for BC’s HST," e-briefs, C.D. Howe Institute 119, C.D. Howe Institute.
  3. Alexandre Laurin & Finn Poschmann & William B.P. Robson, 2011. "When Striking an Awkward Balance Means Striking Out: Budget 2011," e-briefs, C.D. Howe Institute 112, C.D. Howe Institute.
  4. Alex Laurin, . "A Reality Check for BC: The Impact of Behavioural Responses on the 2013 Budget's Proposed Income Tax Increases," e-briefs, C.D. Howe Institute 155, C.D. Howe Institute.
  5. Bev Dahlby & Ergete Ferede, 2012. "The Stimulative Effects of Intergovernmental Grants and the Marginal Cost of Public Funds," CESifo Working Paper Series 3863, CESifo Group Munich.
  6. Ben Dachis, 2013. "Cars, Congestion and Costs: A New Approach to Evaluating Government Infrastructure Investment," C.D. Howe Institute Commentary, C.D. Howe Institute, issue 385, July.

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