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Optimal taxation with imperfect competition and aggregate returns to specialization

Listed author(s):
  • Javier Coto-Martínez
  • Carlos Garriga
  • Fernando Sánchez-Losada

In this paper we explore the proposition that in economies with imperfect competitive markets the optimal capital income tax is negative and the optimal tax on firms profits is confiscatory. We show that if the total factor productivity as well as the measure of firms or varieties are endogenous instead of fixed, then the optimal fiscal policy can lead to different results. The government faces a trade-off between the fixed costs that society pays for the introduction of a new firm and the productivity gains associated to the introduction of a new variety. We find that the optimal fiscal policy depends on the relationship between the index of market power, the returns to specialization, and the government’s ability to control entry.

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File URL: http://research.stlouisfed.org/wp/2007/2007-036.pdf
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Paper provided by Federal Reserve Bank of St. Louis in its series Working Papers with number 2007-036.

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Date of creation: 2007
Publication status: Published in Journal of The European Economic Association (JEEA), December 2007, 5(6), pp. 1269-99
Handle: RePEc:fip:fedlwp:2007-036
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  1. Schmitt-Grohe, Stephanie, 1997. "Comparing Four Models of Aggregate Fluctuations due to Self-Fulfilling Expectations," Journal of Economic Theory, Elsevier, vol. 72(1), pages 96-147, January.
  2. Auerbach, Alan J. & Hines, James Jr., 2002. "Taxation and economic efficiency," Handbook of Public Economics, in: A. J. Auerbach & M. Feldstein (ed.), Handbook of Public Economics, edition 1, volume 3, chapter 21, pages 1347-1421 Elsevier.
  3. Kenneth L. Judd, 1982. "Redistributive Taxation in a Simple Perfect Foresight Model," Discussion Papers 572, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
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  13. Kiminori Matsuyama, 1995. "Complementarities and Cumulative Processes in Models of Monopolistic Competition," Journal of Economic Literature, American Economic Association, vol. 33(2), pages 701-729, June.
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  16. Mikhail Golosov & Narayana R. Kocherlakota & Aleh Tsyvinski, 2001. "Optimal indirect and capital taxation," Staff Report 293, Federal Reserve Bank of Minneapolis.
  17. Bénassy, Jean-Pascal, 1996. "Is there always too little research in endogenous growth with expanding product variety ?," CEPREMAP Working Papers (Couverture Orange) 9615, CEPREMAP.
  18. Guo, Jang-Ting & Lansing, Kevin J., 1999. "Optimal taxation of capital income with imperfectly competitive product markets," Journal of Economic Dynamics and Control, Elsevier, vol. 23(7), pages 967-995, June.
  19. Wu, Yangru & Zhang, Junxi, 2000. "Endogenous markups and the effects of income taxation:: Theory and evidence from OECD countries," Journal of Public Economics, Elsevier, vol. 77(3), pages 383-406, September.
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  21. Ethier, Wilfred J, 1982. "National and International Returns to Scale in the Modern Theory of International Trade," American Economic Review, American Economic Association, vol. 72(3), pages 389-405, June.
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