Taxation in an intertemporal general equilibrium model of a small open economy

Abstract

This paper presents a computable general equilibrium model of a small open economy, similar to the Auerbach-Kotlikoff model. Domestic and foreign goods are imperfect substitutes, whereas domestic and foreign assets are perfectly substitutable. We investigate the effects of partial switches in the choice of tax base from capital or wage income taxation to consumption taxation. It is found that reductions in capital income tax rates may lead to less capital accumulation at home, even though these reductions are welfare improving. A reduction of corporate income taxes gives best results in this respect. Terms of trade effects generally dominate the efficiency gains of a switch of tax base.