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Ad valorem versus unit taxes on capital in a dynamic stochastic general equilibrium model

Author

Listed:
  • Shiou-Yen Chu

    (National Chengchi University)

  • Tsaur-Chin Wu

    (Feng Chia University, Xitun District)

Abstract

This paper is the first attempt to adopt a dynamic stochastic general equilibrium (DSGE) framework with nominal price rigidity and monopolistic competition to compare the macroeconomic effects of unit and ad valorem capital taxes. Our results show that the welfare dominance between an ad valorem tax and a unit tax depends on their relative marginal costs. A higher marginal cost resulting from an increase in capital tax generates less consumption and more labor hours, leading to lower welfare. This result is robust to a varying elasticity of intertemporal substitution in consumption and a varying Frisch elasticity of labor supply, a varying degree of price rigidity and productive versus nonproductive public capital. In response to positive government spending shocks, our results indicate that when the increase in government spending is totally financed via capital taxation, a unit tax is superior to an ad valorem tax.

Suggested Citation

  • Shiou-Yen Chu & Tsaur-Chin Wu, 2023. "Ad valorem versus unit taxes on capital in a dynamic stochastic general equilibrium model," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 30(6), pages 1435-1456, December.
    • Handle: RePEc:kap:itaxpf:v:30:y:2023:i:6:d:10.1007_s10797-022-09764-8
    DOI: 10.1007/s10797-022-09764-8
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    More about this item

    Keywords

    Capital tax; DSGE; Price rigidity; Government spending;
    All these keywords.

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • H20 - Public Economics - - Taxation, Subsidies, and Revenue - - - General
    • H32 - Public Economics - - Fiscal Policies and Behavior of Economic Agents - - - Firm

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