Tax Exemptions of Ethical Products Revisited.

Abstract

Corporate social responsibility (CSR) activities, being viewed as the corporate’s provision of a public good, enable tax exemptions in many economies. We examine, in a monopoly setup with heterogeneous consumers, with social image concerns, whether these tax exemptions are justified. When private and public investments are substitutes, tax exemptions ought to be accorded to CSR activities, and an ad valorem subsidy is welfare superior to a specific one, only when both consumers’ social consciousness and reputational concerns are sufficiently low and/or when the marginal cost on the private good market is sufficiently high. Otherwise, a positive ad valorem tax is welfare improving as it redistributes surplus from the firm to consumers while increasing total welfare in the process. However, when the firm’s CSR investment complements the government’s provision, tax exemptions appear to be suboptimal relative to a positive tax. Specifically, the relative appeal of specific taxes, compared to ad valorem taxes, increases in consumers’ reputational concerns and the value of the optimal tax decreases in their level of altruism.