Why Governments Should Tax Mobile Capital in the Presence of Unemployment

Erkki Koskela and Schöb Ronnie ()
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Schöb Ronnie: Otto-von-Guericke University Magdeburg and CESifo
Authors registered in the RePEc Author Service: Ronnie Schoeb

The B.E. Journal of Economic Analysis & Policy, 2002, vol. 1, issue 1, 22

Abstract: This paper shows that a small open economy that suffers from involuntary unemployment should levy a positive source-based tax on capital income. A revenue-neutral tax reform that increases the capital tax rate and reduces the labour tax rate will induce firms to substitute labour for capital. Such a tax reform will lower the marginal cost of production, increase output, reduce unemployment, and increase domestic welfare as long as the labour tax rate exceeds the capital tax rate. The result holds even though trade unions might succeed in subsequently increasing the net-of-tax wage rate, if the elasticity of substitution between capital and labour is above a critical value (which is itself below one). Finally, and importantly, independent of the size of the elasticity of substitution, the government can promote wage moderation and reduce unemployment by increasing the personal tax credit of employed workers instead of reducing the labour tax rate.

Keywords: capital taxation; labour taxation; involuntary unemployment; trade unions (search for similar items in EconPapers)
Date: 2002
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Citations: View citations in EconPapers (7)

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Related works:
Working Paper: Why Governments should Tax Mobile Capital in the resence of Unemployment (1998)
Working Paper: Why Governments Should Tax Mobile Capital in the Presence of Unemployment
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DOI: 10.2202/1538-0645.1004

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