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How should Financial Intermediation Services be Taxed?

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  • Benjamin Lockwood

Abstract

This paper considers the optimal taxation of savings intermediation and payment services in a dynamic general equilibrium setting, when the government can also use consumption and income taxes. When payment services are used in strict proportion to final consumption, and the cost of intermediation services is fixed and the same across firms, the optimal taxes are generally indeterminate. But, when firms differ exogenously in the cost of intermediation services, the tax on savings intermediation should be zero. Also, when household time and payment services are substitutes in transactions, the optimal tax rate on payment services is determined by the returns to scale in the conditional demand for payment services, and is generally different to the optimal rate on consumption goods. In particular, with constant returns to scale, payment services should be untaxed. These results can be understood as applications of the Diamond-Mirrlees production efficiency theorem. Finally, as an extension, we endogenize intermediation, in the form of monitoring, and show that it may be oversupplied in equilibrium when banks have monopoly power, justifying a Pigouvian tax in this case.

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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 3226.

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Date of creation: 2010
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Handle: RePEc:ces:ceswps:_3226

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Keywords: financial intermediation services; tax design; banks; monitoring; payment services;

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  1. Mikhail Golosov & Narayana Kocherlakota & Aleh Tsyvinski, 2002. "Optimal Indirect and Capital Taxation," Levine's Working Paper Archive 391749000000000449, David K. Levine.
  2. Diamond, Douglas W, 1991. "Monitoring and Reputation: The Choice between Bank Loans and Directly Placed Debt," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 99(4), pages 689-721, August.
  3. Isabel Correia & Pedro Teles, 1997. "The optimal inflation tax," Discussion Paper / Institute for Empirical Macroeconomics, Federal Reserve Bank of Minneapolis 123, Federal Reserve Bank of Minneapolis.
  4. Holmstrom, Bengt & Tirole, Jean, 1997. "Financial Intermediation, Loanable Funds, and the Real Sector," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 112(3), pages 663-91, August.
  5. Brown, Martin & Jappelli, Tullio & Pagano, Marco, 2008. "Information Sharing and Credit: Firm-Level Evidence from Transition Countries," Proceedings of the German Development Economics Conference, Zurich 2008 3, Verein für Socialpolitik, Research Committee Development Economics.
  6. Besanko, David & Kanatas, George, 1993. "Credit Market Equilibrium with Bank Monitoring and Moral Hazard," Review of Financial Studies, Society for Financial Studies, Society for Financial Studies, vol. 6(1), pages 213-32.
  7. Douglas W. Diamond & Philip H. Dybvig, 2000. "Bank runs, deposit insurance, and liquidity," Quarterly Review, Federal Reserve Bank of Minneapolis, Federal Reserve Bank of Minneapolis, issue Win, pages 14-23.
  8. Christopher Phelan & Ennio Stacchetti, 2001. "Sequential Equilibria in a Ramsey Tax Model," Econometrica, Econometric Society, Econometric Society, vol. 69(6), pages 1491-1518, November.
  9. Berger, Allen N & Udell, Gregory F, 1995. "Relationship Lending and Lines of Credit in Small Firm Finance," The Journal of Business, University of Chicago Press, University of Chicago Press, vol. 68(3), pages 351-81, July.
  10. Kevin C. Murdock & Thomas F. Hellmann & Joseph E. Stiglitz, 2000. "Liberalization, Moral Hazard in Banking, and Prudential Regulation: Are Capital Requirements Enough?," American Economic Review, American Economic Association, American Economic Association, vol. 90(1), pages 147-165, March.
  11. Andrew Atkeson & V.V. Chari & Patrick J. Kehoe, 1999. "Taxing capital income: a bad idea," Quarterly Review, Federal Reserve Bank of Minneapolis, Federal Reserve Bank of Minneapolis, issue Sum, pages 3-17.
  12. Poddar, Satya & English, Morley, 1997. "Taxation of Financial Services Under a Value-Added Tax: Applying the Cash-Flow Approach," National Tax Journal, National Tax Association, vol. 50(1), pages 89-111, March.
  13. Faig, Miquel, 1988. "Characterization of the optimal tax on money when it functions as a medium of exchange," Journal of Monetary Economics, Elsevier, Elsevier, vol. 22(1), pages 137-148, July.
  14. Chamley, Christophe, 1986. "Optimal Taxation of Capital Income in General Equilibrium with Infinite Lives," Econometrica, Econometric Society, Econometric Society, vol. 54(3), pages 607-22, May.
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As found by EconAcademics.org, the blog aggregator for Economics research:
  1. How Should Financial Intermediation Services be Taxed?
    by Christian Zimmermann in NEP-DGE blog on 2010-11-24 04:31:57
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Cited by:
  1. Masciandaro, Donato & Passarelli, Francesco, 2013. "Financial systemic risk: Taxation or regulation?," Journal of Banking & Finance, Elsevier, Elsevier, vol. 37(2), pages 587-596.
  2. Giancarlo Corsetti & Michael P. Devereux & John Hassler & Gilles Saint-Paul & Hans-Werner Sinn & Jan-Egbert Sturm & Xavier Vives, 2011. "Chapter 5: Taxation and Regulation of the Financial Sector," EEAG Report on the European Economy, CESifo Group Munich, CESifo Group Munich, vol. 0, pages 147-169, 02.
  3. Matthew Schurin, 2012. "Optimal Fiscal Policy and the Banking Sector," Working papers, University of Connecticut, Department of Economics 2012-40, University of Connecticut, Department of Economics, revised Jul 2013.

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