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PRODUCT DIVERSITY, DEMAND STRUCTURES, AND OPTIMAL TAXATION
Author(s) -
Lewis Vivien,
Winkler Roland
Publication year - 2015
Publication title -
economic inquiry
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.823
H-Index - 72
eISSN - 1465-7295
pISSN - 0095-2583
DOI - 10.1111/ecin.12159
Subject(s) - economics , microeconomics , oligopoly , free entry , distortion (music) , profit (economics) , product differentiation , product market , general equilibrium theory , price elasticity of demand , econometrics , cournot competition , amplifier , cmos , electronic engineering , incentive , engineering
This article studies optimal taxation in a general equilibrium macroeconomic model with endogenous entry. We compare the constant elasticity of substitution ( CES ) model to three alternative demand structures: oligopolistic competition in prices, oligopolistic competition in quantities, and translog preferences. Our economy is characterized by two distortions: a labor distortion due to the misalignment of markups on goods and leisure, and an entry distortion due to the misalignment of the consumer surplus effect and the profit destruction effect of entry. The two distortions interact in determining the wedge between the market‐driven and optimal level of product diversity. We show how optimal labor and entry taxes depend on the prevailing demand structure, the nature and size of entry costs, and the degree of substitutability between goods . ( JEL E22, E61, E62)