Playing by the new subsidy rules: capital subsidies as substitutes for sectoral subsidies

Mary E. Lovely

Chapter 3 in International Economic Integration and Domestic Performance, 2017, pp 39-58 from World Scientific Publishing Co. Pte. Ltd.

Abstract: In a small, open economy characterized by an increasing-returns sector and foreignowned capital, a sector-specific instrument generally is needed to achieve the optimum. A capital subsidy alone can be used for decentralization, however, when the optimal production plan is specialization in the externality-generating activity. The effect of a capital subsidy on home income and its distribution depends on the pattern of production and the share of domestic capital that is foreign owned. In a diversified economy, a subsidy benefits capital owners, harms labor and raises national income only if foreign capital ownership is sufficiently small. In a specialized economy, a subsidy may raise national income even if all domestic capital is foreign owned and, if it does, both labor and capital owners gain. Thus, a capital subsidy may be an attractive replacement for sector-specific subsidies proscribed by international agreements.

Keywords: International Trade; Foreign Direct Investment; Environmental Standards; Labor Standards (search for similar items in EconPapers)
JEL-codes: F02 (search for similar items in EconPapers)
Date: 2017
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