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Indirect Tax Incidence under Inelastic Underground Economy Demand

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  • Soldatos, Gerasimos

Abstract

This paper demonstrates theoretically that a profit tax does not affect the distribution of the firm’s operations between the official and the underground economy. Or, if the firm was initially operating only officially, direct taxation of its business would not be a reason to go underground. Indirect taxation in the form of a sales tax does influence an already existing mix of official and underground activities, favoring the latter. And, it does constitute a reason to “go underground” for an otherwise fully official business. This is a thesis robust to market structure changes and to introducing tax evasion in the usual sense, provided the underground demand is inelastic. The tax authority can still collect the planned tax revenue through a combination of a cash-flow tax with indirect taxation, under only consumer-surplus loss by the underground customer.

Suggested Citation

  • Soldatos, Gerasimos, 2014. "Indirect Tax Incidence under Inelastic Underground Economy Demand," MPRA Paper 64598, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:64598
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    File URL: https://mpra.ub.uni-muenchen.de/64598/1/MPRA_paper_64598.pdf
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Inelastic underground demand; Business-tax shift; Tax policy;
    All these keywords.

    JEL classification:

    • D21 - Microeconomics - - Production and Organizations - - - Firm Behavior: Theory
    • E26 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Informal Economy; Underground Economy
    • H26 - Public Economics - - Taxation, Subsidies, and Revenue - - - Tax Evasion and Avoidance

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