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Perfect Taxation with Imperfect Competition

  • Alan J. Auerbach
  • James R. Hines Jr.

This paper analyzes features of perfect taxation also known as optimal taxation when one or more private markets is imperfectly competitive. Governments with perfect information and access to lump-sum taxes can provide corrective subsidies that render outcomes efficient in the presence of imperfect competition. Relaxing either of these two conditions removes the government's ability to support efficient resource allocation and changes the perfect policy response. When governments cannot use lump-sum taxes, perfect tax policies represent compromises between the benefits of subsidizing output in the imperfectly competitive sectors of the economy and the costs of imposing higher taxes elsewhere. This tradeoff is formally identical for ad valorem and specific taxes, even though ad valorem taxation is welfare superior to specific taxation in the presence of imperfect competition. When governments have uncertain knowledge of the degree of competition in product markets, perfect corrective tax policy is generally of smaller magnitude than that when the degree of competition is known with certainty.

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File URL: http://www.nber.org/papers/w8138.pdf
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 8138.

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Date of creation: Feb 2001
Date of revision:
Publication status: published as Cnossen, S. and H. Sinn (eds.) Public Finance and Public Policy in the New Century. 2003.
Handle: RePEc:nbr:nberwo:8138
Note: PE
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  1. Auerbach, Alan J., 1985. "The theory of excess burden and optimal taxation," Handbook of Public Economics, in: A. J. Auerbach & M. Feldstein (ed.), Handbook of Public Economics, edition 1, volume 1, chapter 2, pages 61-127 Elsevier.
  2. Myles, G. D., 1987. "Tax design in the presence of imperfect competition : An example," Journal of Public Economics, Elsevier, vol. 34(3), pages 367-378, December.
  3. Stiglitz, Joseph E & Dasgupta, P, 1971. "Differential Taxation, Public Goods and Economic Efficiency," Review of Economic Studies, Wiley Blackwell, vol. 38(114), pages 151-74, April.
  4. Michael L. Katz & Harvey S. Rosen, 1983. "Tax Analysis in an Oligopoly Model," NBER Working Papers 1088, National Bureau of Economic Research, Inc.
  5. Seade, Jesus K, 1980. "On the Effects of Entry," Econometrica, Econometric Society, vol. 48(2), pages 479-89, March.
  6. Myles, Gareth D., 1989. "Ramsey tax rules for economies with imperfect competition," Journal of Public Economics, Elsevier, vol. 38(1), pages 95-115, February.
  7. Guesnerie Roger & Laffont Jean-jacques, 1978. "Taxing price makers," CEPREMAP Working Papers (Couverture Orange) 7806, CEPREMAP.
  8. Roberts, John & Sonnenschein, Hugo, 1977. "On the Foundations of the Theory of Monopolistic Competition," Econometrica, Econometric Society, vol. 45(1), pages 101-13, January.
  9. Seade, Jesus, 1980. "The stability of cournot revisited," Journal of Economic Theory, Elsevier, vol. 23(1), pages 15-27, August.
  10. Alan J. Auerbach & James R. Hines Jr., 2001. "Taxation and Economic Efficiency," NBER Working Papers 8181, National Bureau of Economic Research, Inc.
  11. Myles,Gareth D., 1995. "Public Economics," Cambridge Books, Cambridge University Press, number 9780521497695.
  12. Delipalla, Sofia & Keen, Michael, 1992. "The comparison between ad valorem and specific taxation under imperfect competition," Journal of Public Economics, Elsevier, vol. 49(3), pages 351-367, December.
  13. Peter A. Diamond & J. A. Mirrlees, 1968. "Optimal Taxation and Public Production," Working papers 22, Massachusetts Institute of Technology (MIT), Department of Economics.
  14. Gareth Myles, 1996. "Imperfect competition and the optimal combination of ad valorem and specific taxation," International Tax and Public Finance, Springer, vol. 3(1), pages 29-44, January.
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