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Product diversity, demand structures and optimal taxation

Author

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  • Vivien LEWIS
  • Roland WINKLER

Abstract

This paper studies optimal taxation in a general equilibrium model with endogenous entry. We compare the constant elasticity of substitution (CES) model to three alternative demand structures: oligopolistic competition in prices, oligopolistic competition in quantities, and translog preferences. Our economy is characterized by two distortions: a labor distortion due to the misalignment of markups on goods and leisure, and an entry distortion due to the misalignment of the consumer surplus effect and the profit destruction effect of entry. The two distortions interact in determining the wedge between the market-driven and optimal level of product diversity. We show how optimal labor and entry taxes depend upon the prevailing demand structure, the nature and size of entry costs, and the degree of substitutability between goods.

Suggested Citation

  • Vivien LEWIS & Roland WINKLER, 2013. "Product diversity, demand structures and optimal taxation," Working Papers of Department of Economics, Leuven ces13.22, KU Leuven, Faculty of Economics and Business (FEB), Department of Economics, Leuven.
    • Handle: RePEc:ete:ceswps:ces13.22
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    2. Takahiro Ishii, 2021. "Technology sharing incentives for monopolistic firms," Discussion Papers in Economics and Business 21-05, Osaka University, Graduate School of Economics.
    3. Fabio Ghironi & Sanjay K. Chugh, 2010. "Optimal Fiscal Policy with Endogenous Product Variety," 2010 Meeting Papers 812, Society for Economic Dynamics.
    4. Gagnie Pascal Yebarth, 2025. "On Taxation Policy in Strategic Bilateral Exchange: A review," EconomiX Working Papers 2025-34, University of Paris Nanterre, EconomiX.
    5. Cheng-wei Chang & Ching-chong Lai, 2021. "Optimal fiscal policies and market structures with monopolistic competition," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 28(6), pages 1385-1411, December.
    6. Etro, Federico, 2020. "Technological Foundations for Dynamic Models with Endogenous Entry," European Economic Review, Elsevier, vol. 128(C).
    7. Alexander Tarasov & Robertas Zubrickas, 2023. "Optimal income taxation under monopolistic competition," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 76(2), pages 495-523, August.
    8. Dudley Cooke & Tatiana Damjanovic, 2016. "Optimal Fiscal Policy in a Model of Firm Entry and Financial Frictions," CEMAP Working Papers 2016_02, Durham University Business School.
    9. Iwaisako, Tatsuro, 2019. "Welfare analysis of uniform entry tax in a general equilibrium model with heterogeneous industries," Economics Letters, Elsevier, vol. 178(C), pages 54-57.
    10. Yuanbin Xu & Yuchen Wang & Fucai Lu & Quan Xiao, 2023. "Toss a Peach and Get Back a Plum: Impact of Customized Services on Firm Performance," SAGE Open, , vol. 13(3), pages 21582440231, September.
    11. Florin O. Bilbiie & Fabio Ghironi & Marc J. Melitz, 2019. "Monopoly Power and Endogenous Product Variety: Distortions and Remedies," American Economic Journal: Macroeconomics, American Economic Association, vol. 11(4), pages 140-174, October.
    12. Dudley Cooke & Tatiana Damjanovic, 2020. "Optimal Fiscal Policy in a Model of Firm Entry with Financial Frictions," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 35, pages 74-96, January.
    13. Cheng‐wei Chang, 2020. "Endogenous overhead costs, firm size, and fiscal shocks," Scottish Journal of Political Economy, Scottish Economic Society, vol. 67(2), pages 223-230, May.
    14. Etro, Federico, 2016. "Endogenous market structures in the credit market and Ricardian equivalence," Economics Letters, Elsevier, vol. 140(C), pages 14-18.
    15. Federico Etro, 2018. "Macroeconomics with Endogenous Markups and Optimal Taxation," Southern Economic Journal, John Wiley & Sons, vol. 85(2), pages 378-406, October.
    16. Kazuyoshi Ohki, 2016. "Welfare analysis and policy implications in Melitz-type model where markup differs across industries," ISER Discussion Paper 0984, Institute of Social and Economic Research, The University of Osaka.

    More about this item

    JEL classification:

    • E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Investment; Capital; Intangible Capital; Capacity
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation

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