Product Diversity, Demand Structures and Optimal Taxation

43 Pages Posted: 20 Jan 2014

See all articles by Vivien Lewis

Vivien Lewis

Research Centre; KU Leuven

Roland Winkler

Dortmund University, Faculty of Business, Economics, and Social Sciences,

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Date Written: November 14, 2013

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.

Keywords: Product diversity, entry, oligopolistic competition, translog preferences, optimal taxation

JEL Classification: E22, E61, E62

Suggested Citation

Lewis, Vivien and Winkler, Roland, Product Diversity, Demand Structures and Optimal Taxation (November 14, 2013). Available at SSRN: https://ssrn.com/abstract=2381524 or http://dx.doi.org/10.2139/ssrn.2381524

Vivien Lewis (Contact Author)

Research Centre ( email )

Wilhelm-Epstein-Str. 14
Frankfurt/Main, 60431
Germany

KU Leuven ( email )

Oude Markt 13
Leuven, 3000
Belgium

Roland Winkler

Dortmund University, Faculty of Business, Economics, and Social Sciences, ( email )

United States

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