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Finance and Economics Discussion Series
Finance and Economics Discussion Series logo links to FEDS home page Welfare Effects of Tax Policy in Open Economies: Stabilization and Cooperation
Jinill Kim and Sunghyun Henry Kim

Abstract: This paper studies an international tax policy design problem by employing a two-country dynamic general equilibrium model with incomplete asset markets. We investigate the possibility of welfareimproving active tax policies, in particular capital and labor income tax, under the non-cooperative Nash equilibrium and the cooperative equilibrium. Unlike the conventional wisdom regarding stabilization policies, optimal tax policies in our economy are procyclical. Relative to the non-cooperative setting, international tax policy cooperation requires more active tax policies (about two times) and generates large extra welfare gains (by about a third).

Keywords: Income tax, welfare, stabilization, cooperation

Full paper (400 KB PDF)

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Last update: November 17, 2003