Macroeconomic effects of an indirect tax substitution

Abstract

We study an indirect tax reform in a general equilibrium model with imperfect competition for both the Cournot and the Free entry equilibria.We show that it is possible to attain a positive balanced budget multiplier by means of a substitution of specific by ad valorem taxation. Moreover, although any tax substitution causes higher prices and the flow up of firms in the long-run, the Free entry equilibrium output can increase with respect to that of the Cournot equilibrium. Finally, in contrast with the partial equilibrium, welfare decreasing tax reforms are likely to occur even when the balanced budget multiplier is positive.