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Tariffs Versus VAT in the Presence of Heterogeneous Firms and an Informal Sector

Author

Listed:
  • Ronald B. Davies

    () (University College Dublin)

  • Lourenço S. Paz

    (Syracuse University)

Abstract

The debate over the use of tariffs or value added taxes in developing countries has focused on the difficulty of collecting VAT from the informal sector of the economy. This paper contributes by considering this issue with heterogeneous firms and endogenous entry. This yields two new results. First, a cut in the tariff in and of itself can reduce the size of the informal sector. Second, the imposition of a VAT need not increase the number of informal firms. In fact, for many parameterizations of the model, higher VAT reduces informality. Despite this, whether a revenue neutral shift from tariffs to VAT increases or decreases welfare depends on the parametrization. Therefore while this move may be welfare improving in some cases, it is not a one-size fits all policy.

Suggested Citation

  • Ronald B. Davies & Lourenço S. Paz, 2010. "Tariffs Versus VAT in the Presence of Heterogeneous Firms and an Informal Sector," Working Papers 1006, Oxford University Centre for Business Taxation.
  • Handle: RePEc:btx:wpaper:1006
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Francesc Ortega & Giovanni Peri, 2016. "Openness and income: The roles of trade and migration," World Scientific Book Chapters,in: The Economics of International Migration, chapter 10, pages 309-329 World Scientific Publishing Co. Pte. Ltd..
    2. Christian Bauer & Ronald B. Davies & Andreas Haufler, 2011. "Economic integration and the optimal corporate tax structure with heterogeneous firms," The Institute for International Integration Studies Discussion Paper Series iiisdp373, IIIS.
    3. Barrios, Salvador & Huizinga, Harry & Laeven, Luc & Nicodème, Gaëtan, 2012. "International taxation and multinational firm location decisions," Journal of Public Economics, Elsevier, vol. 96(11), pages 946-958.
    4. Bauer, Christian & Davies, Ronald B. & Haufler, Andreas, 2014. "Economic integration and the optimal corporate tax structure with heterogeneous firms," Journal of Public Economics, Elsevier, pages 42-56.
    5. Creane, Anthony & Jeitschko, Thomas D., 2016. "Exporting to bypass weak institutions," European Economic Review, Elsevier, pages 185-197.
    6. Panos Hatzipanayotou & Sajal Lahiri & Michael Michael, 2011. "Trade and domestic tax reforms in the presence of a public good and different neutrality conditions," International Tax and Public Finance, Springer;International Institute of Public Finance, pages 273-290.
    7. Michael Michael & Panos Hatzipanayotou, 2013. "Pollution and reforms of domestic and trade taxes towards uniformity," International Tax and Public Finance, Springer;International Institute of Public Finance, pages 753-768.
    8. Michael Michael & Panos Hatzipanayotou, 2013. "Pollution and reforms of domestic and trade taxes towards uniformity," International Tax and Public Finance, Springer;International Institute of Public Finance, pages 753-768.
    9. Paz, Lourenco, 2012. "The effect of trade liberalization on payroll tax evasion and labor informality," MPRA Paper 39545, University Library of Munich, Germany.
    10. Bognetti, Giuseppe & Santoni, Michele, 2016. "Increasing the substitution elasticity can improve VAT compliance and social welfare," Economic Modelling, Elsevier, pages 293-307.

    More about this item

    Keywords

    Value Added Tax; Heterogeneous Firms;

    JEL classification:

    • F1 - International Economics - - Trade
    • H2 - Public Economics - - Taxation, Subsidies, and Revenue

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