Tax Incidence and Optimal Forest Taxation under Stochastic Demand

Abstract

Abstract This article examines the incidence and welfare effects of forest taxation in the competitive roundwood markets when future demand for timber is uncertain, thus making the future timber price stochastic. It turns out that the nature of timber price risk is crucial for the behavioral, incidence and welfare effects of forest taxes. Under private risk, when some do well and others poorly, the land site tax is like a pure profit tax and is fully borne by forest owners, while the burden of the yield tax is generally shared by both sides of the market. The incidence of the yield tax does not, however, matter qualitatively for the optimal structure of taxation. It is desirable to supplement the land site tax by a distortionary yield tax, because it provides social insurance by decreasing the after-tax timber price risk, which overweighs its distortionary effect. The level of the optimal yield tax is determined by the trade-off between its social insurance and distortionary effects. Under aggregate risk, when all either gain or lose, government budget constraint is stochastic. Given the optimal land site tax, optimal yield tax is nondistortionary and thus fully borne by forest owners. The neutrality of the optimal yield tax is due to the fact that it has no social insurance role in the presence of aggregate risk. The level of the yield tax depends on the risk attitudes toward variability of after-tax timber revenue and government consumption. For. Sci. 44(1):4-16.