Systematic Political Grass–Root Support for Tariffs

The leading political–economy–of–trade models are virtually silent on two fundamental questions raised by Rodrik in 1995. Why are trade policies systematically biased against trade? And why are tariffs rather than more efficient production subsidies adopted to redistribute income? This paper shows that systematic political grass–root support for trade–restricting and inefficient tariffs emerges when the government has a revenue goal and collecting taxes is costly. Even if no tax instrument enjoys an advantage with respect to collection costs and the factor ownership distribution is unbiased, more people support tariffs than import or production subsidies. More generally, the presence of tax–collection costs creates a grass–root support bias for taxes over subsidies as instruments to redistribute income.     

Trade taxes and international investment

Abstract .  This paper demonstrates that international investment disturbs the conventionally understood equivalence between import tariffs and export taxes. Fundamentally, remittances to foreigners introduce an additional pecuniary channel between countries so that two-good Lerner Symmetry generally will not hold. Moreover, because tariffs subsidize investors in the local import competing sector while export taxes can extract rent from foreign investors in the export sector, the pattern of international investment will influence government preferences over trade policy  instruments  as well as levels. Notably, trade tax symmetry is restored by introducing a third policy tool in the form of a direct a tax on international remittances.     

Cross-border acquisitions and taxes: efficiency and tax revenues

Abstract .  We develop a theoretical oligopoly model to study how international differences in profit and capital gains taxes affect foreign acquisitions. Reductions in foreign profit taxes tend to trigger inefficient foreign acquisitions, while reductions in foreign capital gains taxes may trigger efficient foreign acquisitions. Foreign acquisitions can increase domestic tax revenues even when profit taxes are evaded. The reason is that bidding competition between foreign firms ensures that all benefits from the acquisition, including tax advantages, are captured by a domestic seller paying capital gains taxes. Tax code issues, such as the treatment of goodwill, are shown to affect the pattern of foreign acquisitions.     

Profit taxation and the mode of foreign market entry

Abstract This paper studies the role of profit taxation for an international firm's decision upon how to penetrate a foreign market – through exports or through foreign direct investment (FDI) and local supply. We show that with harmonized taxes the international firm may choose FDI even though this has welfare costs from a global point of view. With tax competition, the host country can enforce exporting instead of FDI. This leads to a Nash equilibrium associated with higher world welfare than harmonized taxes. Thus, because of the effect on entry mode, tax competition provides heretofore unexplored benefits as compared to tax harmonization.     

Strategic Environmental Policies when Waste Products are Tradable

The paper deals with international trade in hazardous waste products when there is an international oligopoly market for waste, and both waste‐importing and waste‐exporting countries act strategically to utilize national environmental policies to attach rents arising from trade in waste. The authors model a multiple‐stage game where waste is generated in an industrialized country as a byproduct of production, and potentially is exported to some less‐developed countries, if not abated locally, or imposed on local residents at a cost of an environmental tax. In the market for waste, an oligopolistic supply is assumed. The demand for waste is perfectly competitive, with waste‐processing firms guided by marginal disposal costs and environmental taxes levied by foreign countries. With each country playing Nash, the analysis finds domestic and foreign taxes to be distorted from the Pigouvian taxes in such a way that the domestic (waste‐exporter) tax rate is set below, and the foreign tax rate is set above, the Pigouvian taxes. However, a global welfare optimum requires tax distortions in the opposite direction, in the sense that foreign environmental taxes must be set below the Pigouvian tax rate.     

Export taxes versus buffer stocks as optimal export policies under uncertainty

Optimal state-dependent export taxes and costly-to-store buffer stocks are compared in their welfare implications for an exporter possessing monopoly power in the international trade of a volatile commodity. Optimal stochastic control is used to derive the optimal buffer stock rules. It is shown that, if the internal and external fluctuations facing the exporter are large, if the storage costs are low, and if the price elasticity of export supply is small relative to that of export demand, the exporter would gain more from a buffer stock than from a optimal export tax. World welfare is always increased by buffer stocks, as opposed to tariffs; and, under some conditions, the foreign country might also benefit and, hence, not retaliate.     

Do inward looking trade policies affect poverty and income inequality? Evidence from Indonesia's recent wave of rising protectionism

Unlike previous studies which often focus on trade liberalisation, this paper examines the impact of protectionism in the form of import tariffs and mineral export taxes on rural and urban poverty and income inequality for the first time. Using a dynamic computable general equilibrium model on Indonesia, mineral export taxes were found to adversely affect urban and rural poverty but income inequality hardly changed as the decline in income in the higher income group is not significantly different to the decline in low income groups. However, if smelters for mineral ore are developed, then there is not only a fall in poverty, more so for the rural than urban, but there is some decline in income inequality. On the other hand, although the current imposed import tariffs do not affect poverty or income inequality, any further increases from the current low average MFN applied rates, will see a rise in rural and urban poverty and income inequality. By and large, any small improvements in the trade balance brought upon by the mineral tax and import tariffs are more than outweighed by the substantial decline in real household consumption expenditure due to falls in employment and wages, thereby leading to a fall in GDP growth.     

TAX-PRICE REFORM WITH DIRECTLY UNPRODUCTIVE PROFIT-SEEKING (DUP) ACTIVITIES*

This paper explores the extent to which insights available from existing writings on directly unproductive profit-seeking (DUP) activities in international trade modify rules of tax and tariff reform in normative public economics and examines in what way these should affect advice on tax policy usually given to developing countries. The analysis proceeds by developing two models. The first incorporates revenue seeking directly into a standard open economy public finance model and examines whether analysis of policy reform and economic costs of distortionary tariffs must be modified. The second includes a political component in the form of lobbying for subsidies – the expenditure side of the budget – as well as a normative economic component that raises taxes – the revenue side – to finance the social costs of such lobbying. The model can be used to determine the effects of politically determined expenditures on tax setting. The analysis shows that the grammar of welfare-theoretic arguments that underlies the reform and design of tax and tariff structures is robust to the inclusion of DUP activities of the type considered here. In particular, the latter lend no presumption in favor of uniformity in tax and tariff structures. It is argued that existing policy advice on tax and tariff reform derived from models where DUP activities have traditionally played no role continues to be appropriate when account is taken of formal treatments of DUP-type phenomena extant in the current literature.     

Border tax adjustments and tariff‐tax reforms with consumption pollution

We develop a model of a small open economy, where pollution per unit of consumption between domestically produced and imported quantities of the same good differs. We show that the first‐best policy combination calls for consumption taxes on all polluting goods, and border tax adjustment (BTA) measures, that is, tariffs or import subsidies. We identify conditions under which well‐known tariff‐tax reform policies for developing economies, such as a consumer‐price‐neutral piecemeal reform of trade and a consumption tax, and a consumer‐price‐neutral reform of all trade and consumption taxes improve welfare. We also evaluate whether reforms of trade taxes alone are superior to consumer‐price‐neutral reforms of trade and consumption taxes.     

Market Integration and Competition in Environmental and Trade Policies

Recent empirics suggest the relevance of transport cost reductions for world trade growth along with eliminations in protectionist trade barriers. To address the welfare effects of trade cost reductions in a context of ??trade and the environment,?? we develop a two-stage game model where governments choose environmental and trade policies and firms play a Cournot-Nash game. We show that reductions in transport costs lead to lower emission taxes and higher tariffs. And, we find that the degree of pollution damage plays a central role in whether market integration is welfare-improving relative to autarky.     

The importance of government commitment in attracting firms: A dynamic analysis of tax competition in an agglomeration economy

Agglomeration tendencies of industrial firms significantly affect the nature of tax competition. This paper analyzes tax competition between two countries over an infinite time horizon in an economy with trade costs and internationally mobile industrial firms. Most of the previous studies on tax competition in the ‘new economic geography’ framework employ static models. In this study, two governments dynamically compete with each other to attract firms through their choices of taxes and subsidies. It is shown that the commitment of the governments to their policies is crucial in determining the distribution of firms in the long run. Specifically, if governments find each others׳ tax policies credible, then one country will attract all the firms when trade costs are low enough to make agglomeration forces dominant. If policies are not credible, both countries may attract an equal share of firms even when trade costs are low, as the lack of commitment by governments acts as a dispersion force.     

Endogenous trade policy in general equilibrium: An interaction of redistribution rule,trade openness,and labor market condition

Using a general equilibrium framework, the paper derives trade policy endogenously for a small country. It shows that, contrary to the existing literature, a lobbying industry is not guaranteed trade protection; it may even face trade taxes. Besides lobbying, trade policy depends on other factors such as the trade revenue distribution rule, income distribution across groups, trade openness, factor substitutability in production, industry employment size, and labor market flexibility. The paper also shows that the observed phenomenon of government preference for import tariffs over export subsidies—a long overdue puzzle—is an inherent outcome of lobbying equilibrium. It also shows that trade policies such as import tariffs and export taxes that have the same impact on economic market—Lerner symmetry (1936)—are driven by the same forces in the political market.     

Foreign direct investment in a world of multiple taxes

Governments impose multiple taxes on foreign investors, though studies of the effect of tax policy on the location of foreign direct investment (FDI) focus almost exclusively on corporate income taxes. This paper examines the impact of indirect (non-income) taxes on FDI by American multinational firms, using affiliate-level data that permit the introduction of controls for parent companies and affiliate industries. Indirect tax burdens significantly exceed the foreign income tax obligations of foreign affiliates of American companies. Estimates imply that 10% higher local indirect tax rates are associated with 7.1% lower affiliate assets, which is similar to the effect of 10% higher income tax rates. Affiliate output falls by 2.9% as indirect taxes rise by 10%, while higher income taxes have more modest output effects. High corporate income tax rates depress capital/labor ratios and profit rates of foreign affiliates, whereas high indirect tax rates do not. These patterns reveal the impact of indirect taxes and suggest the mechanisms by which direct and indirect taxes affect FDI.     

The Ramaswami Argument in a Multi-commodity Setting

This paper considers the optimum taxes and tariffs in a multi-commodity setting. Using the argument in Ramawami (1968), I show that when all goods and factors are tradable, the home country should buy out all the foreign factors. Conditions for the optimal terms of trade are also analyzed. In a single consumption good model, the foreign factors should be bought out at the foreign autarky prices. This result is only partially true in the more general setting. While factor mobility should be prohibited before the buy-out, non-prohibitive tariffs have to be imposed on trade in goods to attain the optimum terms of trade.     

Foreign direct investment under oligopoly: Profit shifting or profit capturing?

In this paper a model of taxation of foreign source corporate income is developed when the output market is not perfectly competitive. Profit shifting policies, similar to those in the new trade literature, are also present in the case of foreign direct investment (FDI). There are, however, important differences to the new trade theory since in case of FDI, (i) corporate taxation and double taxation relief are the policy instruments rather than output or revenue taxes, (ii) countries are not symmetric in the sense that the host country has the first right to tax the multinational's profit and the home country reacts by providing double taxation relief, and (iii) output but not corporate taxation is specific to imperfectly competitive industries. It is argued that (a) variants of a tax credit are analogous to export subsidies, (b) when the home country operates a tax credit system the host country's incentive to capture the multinational's profit is bounded under imperfect competition, (c) when the host country offers a tax holiday the home country should imitate this policy, and (d) in the presence of perfect competitive industries, double taxation relief is a good instrument to target imperfectly competitive industries.     

The core periphery model with asymmetric inter-regional and intra-regional trade costs

We generalize the model of Krugman (J Polit Econ 99(3):483–499, 1991) to allow for asymmetric trade costs between regions and for (asymmetric) trade costs that are internal to the regions. We find that industrial activity, in a region, is enhanced by higher costs of importing and lower costs of exporting (more precisely, by a higher ratio between the two trade costs). This suggests that countries may impose tariffs on imported goods and seek to remove the import tariffs in other countries (unilateral protectionism) in order to foster industrial activity. Industrial activity is also promoted by lower domestic internal trade costs and higher foreign internal trade costs (more precisely, by a lower ratio between the two trade costs).     

Trade,foreign direct investment or acquisition: Optimal entry modes for multinationals

We examine multinationals' optimal entry modes into foreign markets as a function of market size, FDI fixed costs, tariffs and transport costs. Our results highlight why large countries are more likely to attract acquisition investment, while intermediate sized countries may be served predominantly through trade, even in the presence of high tariffs. Small countries are most likely to experience either FDI or no entry. We also show how these results vary with the competition intensity in the host country.FDI fixed costs, tariffs and transport costs are crucial not only in determining whether to engage in FDI or trade, but they are also shown to influence the acquisition choice as trade and FDI threats influence the acquisition price. Finally, we explore the welfare implications of tariff reductions for both the local firm and the multinational and investigate political motives to impose endogenous tariffs that influence not only the welfare of a local firm, but also the entry mode of the multinational.     

Indirect taxes: A comparative study of Greece and the EEC

Financing ever-growing governmental services in a non-inflationary manner is one of the main problems of public policy for all governments, including those of Greece and the EEC countries. The accession of Greece to the EEC would require tax reforms, especially in indirect taxes, which include tariffs and turnover or value added taxes. A regression analysis for the postwar years indicate that ‘imports’ is a far more important variable in explaining changes in indirect taxes than ‘private consumption’ and ‘inflation’. Such empirical findings may be useful to related policies on public finance of the countries considered, as well as other countries with similar economic problems.     

Multilateral Reforms of Trade and Environmental Policy

The paper analyzes environmental tax policy reform using a competitive model of world trade that includes production‐generated environmental damage (pollution) and trade tariffs. The authors examine the feasibility of Pareto‐improving multilateral reforms of environmental taxes, and show that any environmental tax reform that is mutually welfare‐improving when compensating lump‐sum transfers are assumed is also welfare‐improving when a suitable tariff reform (but no transfers) is combined with the tax changes. Several specific reform proposals are developed. These results expand the feasible set of mutually improving policy proposals for international policy initiatives.