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Product market integration, tax distortions and public sector size

  • Torben M. Andersen

    ()

    (Department of Economics and Business, Aarhus University)

  • Allan Sørensen

    ()

    (Department of Economics and Business, Aarhus University
    Department of Economics and Business, Aarhus University)

The implications of product market integration for public sector activities (transfers and public consumption) are considered in a standard setting. The analysis supports that a larger public sector (higher tax rate) tends to increase wages and worsen wage competitiveness. However, the implications of product market integration for the public sector are far from straightforward. The reason is gains-from-trade effects which tend to increase the tax base and decrease the opportunity costs of public consumption (marginal utility of private consumption falls). It follows that the retrenchment view that product market integration inevitable leads to a downward pressure on public sector activities does not get support in a standard setting. A particularly noteworthy ?finding is that a country with a large public sector (strong preferences for public consumption) may bene?fit more by integrating with a country with a smaller public sector (weak preferences for public consumption).

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Paper provided by School of Economics and Management, University of Aarhus in its series Economics Working Papers with number 2013-28.

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Length: 18
Date of creation: 18 Dec 2013
Date of revision:
Handle: RePEc:aah:aarhec:2013-28
Contact details of provider: Web page: http://www.econ.au.dk/afn/

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