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The dynamic effects of tax policies in a small open economy

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  • Mohammed Mohsin

Abstract

We develop an intertemporal optimizing model of a small open economy with both durable and nondurable consumption to address the implications of alternative tax policies. An increase in lump sum taxes reduces the steady state level of consumption and improves the stock of foreign bonds. Consistent with empirical evidence, durable consumption exhibits initial excess volatility. Though an increase in the tax on durables increases the demand for nondurables and improves the bond holdings in the steady state, an increase in the tax on nondurables has insignificant effects on the stock of foreign bonds and the consumption of durables. Using quarterly data from the UK and estimating generalized impulse response functions we find empirical support. We also calibrate the welfare implications of different tax policies.

Suggested Citation

  • Mohammed Mohsin, 2010. "The dynamic effects of tax policies in a small open economy," Applied Economics, Taylor & Francis Journals, vol. 42(24), pages 3091-3104.
  • Handle: RePEc:taf:applec:v:42:y:2010:i:24:p:3091-3104
    DOI: 10.1080/00036840801964856
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    References listed on IDEAS

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    1. Christopher J. Erceg & Andrew T. Levin, 2002. "Optimal monetary policy with durable and non-durable goods," International Finance Discussion Papers 748, Board of Governors of the Federal Reserve System (U.S.).
    2. Campbell, John Y & Ludvigson, Sydney, 2001. "Elasticities of Substitution in Real Business Cycle Models with Home Protection," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 33(4), pages 847-875, November.
    3. Rochelle M. Edge, 2000. "The effect of monetary policy on residential and structures investment under differential project planning and completion times," International Finance Discussion Papers 671, Board of Governors of the Federal Reserve System (U.S.).
    4. Jonas D. M. Fisher, 2001. "A real explanation for heterogeneous investment dynamics," Working Paper Series WP-01-14, Federal Reserve Bank of Chicago.
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