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Specific versus ad valorem taxes in the presence of cost and quality differences

Kuang-Cheng Andy Wang, Ping-Yao Chou and Wen-Jung Liang ()
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Kuang-Cheng Andy Wang: Chang Gung University
Ping-Yao Chou: National Central University
Wen-Jung Liang: National Dong Hwa University

International Tax and Public Finance, 2018, vol. 25, issue 5, 1197-1214

Abstract: Abstract We take into account the cost and product differences in an oligopolistic framework to examine the superiority of a specific tax versus an ad valorem tax. We obtain the following main results. First, given a fixed total output and assuming that both differences in quality levels and in marginal costs are arithmetic progressions, a specific tax can be superior to an ad valorem tax if the quality difference is larger than the marginal-cost difference. Second, provided that products differ in quality levels, in horizontal levels, and in terms of marginal costs, a rise in the difference in horizontal levels will enhance the superiority of a specific tax over an ad valorem tax. Third, the above two results remain valid, regardless of whether the mode of competition is Cournot or Bertrand. Finally, when the difference in quality levels is larger than the difference in marginal costs, not only is a specific tax welfare superior to an ad valorem tax, but the former also Pareto dominates the latter.

Keywords: Specific tax; Ad valorem tax; Quality differentiation; Horizontal differentiation; Marginal-cost difference (search for similar items in EconPapers)
JEL-codes: L5 H2 (search for similar items in EconPapers)
Date: 2018
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