Externalities, Border Trade and Illegal Production: An Optimal Tax Approach to Alcohol Policy

Thomas Aronsson () and Tomas Sjögren ()
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Thomas Aronsson: Department of Economics, Umeå University, Postal: S 901 87 Umeå, Sweden

No 654, Umeå Economic Studies from Umeå University, Department of Economics

Abstract: This paper deals with optimal income and commodity taxation in an economy, where alcohol is an externality-generating consumption good. In our model, alcohol can be bought domestically, imported (via border trade) or produced illegally. Border trade implies an incentive to set the domestic alcohol tax below the marginal social damage of alcohol, and to tax (subsidize) commodities which are complementary with (substitutable for) alcohol. In addition, since leisure and alcohol consumption are generally nonseparable, the income tax will also be used as a corrective instrument. On the other hand, the desire to reduce the illegal production may generally affect the optimal income and commodity taxes in either direction. One possible (and arguably realistic) outcome is, nevertheless, that the desire to avoid the illegal production works to reduce both the alcohol tax and the marginal income tax rate.

Keywords: taxation; external effects; alcohol; border trade. (search for similar items in EconPapers)
JEL-codes: D61 D62 H21 H23 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-int and nep-pbe
Date: 2005-04-04
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