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Economic integration and the optimal corporate tax structure with heterogeneous firms

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  • Bauer, Christian
  • Davies, Ronald B.
  • Haufler, Andreas

Abstract

We study the optimal combination of corporate tax rate and tax base in a model of a small open economy with heterogeneous firms. We show that it is optimal for the small country's government to e®ectively subsidize capital inputs by granting a tax allowance in excess of the true costs of capital. Economic integration reduces the optimal capital subsidy and drives low-productivity firms from the small country's home market, replacing them with high-productivity exporters from abroad. This endogenous policy response creates a selection effect that increases the average productivity of home firms when trade barriers fall, in addition to the well-known direct effects.

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Bibliographic Info

Paper provided by University of Munich, Department of Economics in its series Discussion Papers in Economics with number 12310.

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Date of creation: Aug 2011
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Handle: RePEc:lmu:muenec:12310

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Keywords: corporate tax reform; trade liberalization; firm heterogeneity;

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Cited by:
  1. Langenmayr, Dominika & Haufler, Andreas & Bauer, Christian J., 2012. "Should tax policy favor high- or low-productivity firms?," Discussion Papers in Economics 14277, University of Munich, Department of Economics.
  2. Peter Egger & Horst Raff, 2011. "Tax Rate and Tax Base Competition for Foreign Direct Investment," CESifo Working Paper Series 3596, CESifo Group Munich.

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