- Email: [email protected]
Integrated reforms of tariffs and consumption taxes
Journal
of Public
Economics
52 (1993) 417428.
North-Holland
Integrated reforms of tariffs and consumption taxes Michael Miller* Department Received
S. Michael, ofEconomics,U-63,
November
Panos Hatzipanayotou
and Stephen
University of Connecticut, Storm, CT06269-1063,
1991, final version received
September
M.
USA
1992
The literatures on tariffs and commodity taxes have independently established suflicient conditions under which a tariff or commodity tax reform improves welfare. The present paper considers policy reforms within an integrated indirect tax structure. Given the relative inefficiency of tariffs to consumption taxes, given the existing high tariffs in less-developed countries (LDCs), and given the LDCs’ need to raise certain revenue from indirect taxation, we identify conditions under which decreasing tariffs and increasing consumption tax rates improve welfare while government revenue remains constant. We also examine with and without the constant revenue constraint the conditions under which the movement of the total tax burden rates toward uniformity, through adjustments in consumption tax and tariff rates, improves welfare.
1. Introduction Most countries have relied historically on tariffs as a primary source of government revenue. Although easier to implement and administer, tariffs are inefficient relative to other revenue generating instruments (e.g. consumption taxes) because of the induced consumption and production distortions [e.g. see Dixit (1985)]. Thus, government revenue from tariffs has declined in most developed countries with trade liberalization, and has been replaced by revenue from other tax instruments such as progressive income taxes, and sales and value added taxes. The share of total government revenue accounted for by tariff revenue in many developing countries, nonetheless, still remains high.’ Developing countries generally find it easier to tax foreign trade at their ports, because of the limited administrative apparatus associated with tariffs, than to adopt the more complex tax systems of Correspondence to: Stephen M. Miller, Department of Economics, U-63, University Connecticut, Storrs, CT 06269-1063, USA, Fax-(203) 4864463. *The authors acknowledge the comments of two anonymous referees on earlier versions this paper. ‘For example, tariff revenue as a percent of government current revenue in 1987 was percent in Gambia, 55 percent in Lesotho, 30 percent in Pakistan, India, and Guatemala, and percent in the Philippines. 004772727/93/$06.00
0
1993-Elsevier
Science Publishers
B.V. All rights reserved
of of 69 25
M.S. Michael et al., Integrated reforms 01 tariffs and consumption taxes
418
developed countries. In due course, the development process will cause some of these countries also to shift from tariffs to commodity and income taxes as the primary sources of government revenue. This eventual shift to more efficient (less distortionary) tax instruments, however, may induce equally serious problems for these developing countries. The theory of second best demonstrates that arbitrary changes in distortions (e.g. reductions of tariffs and increases of consumption taxes) may reduce a country’s welfare. Responding to the difficulties of piecemeal policy reform, the literature on tariffs has established sufficient conditions under which tariff reform (i.e. uniform reduction of tariff rates, or reducing the highest tariff rate toward the second highest rate) improves welfare, ignoring, however, the effects on tariff revenue [e.g. Hatta (1977a) and Fukushima (1979)]. On the other hand, the literature on commodity tax reform has established sufficient conditions under which tax changes (e.g. movement of consumption taxes toward uniformity) improve welfare either ignoring the effects on commodity tax revenue [e.g. Hatta (1977b)J or assuming that the initial commodity tax revenue must be maintained after the reform [e.g. Hatta (1986)].* In general, the literatures on tariff and commodity tax reforms have evaluated the welfare effects of either tariff or commodity tax adjustments independently, without paying sufficient attention to the effect of changing indirect taxation on government revenue. Given that LDCs’ need to raise certain revenue from indirect taxation, our analysis considers reforms within the indirect tax system that improve welfare and keep government revenue constant.3 Specifically, given high tariffs and low consumption taxes, and given the well-known relative inefficiencies of tariffs to consumption taxes, we identify conditions under which the reduction of tariffs and increases in consumption taxes improve welfare while keeping government revenue constant. Section 2 develops a general equilibrium trade model of a small open economy with fixed factor supplies. Section 3 examines the conditions under which adjustments in indirect taxation are welfare improving, ignoring the government revenue effects of such tax reforms. Section 4 considers the conditions where reforms of indirect taxation keep revenue constant and improve welfare. The last section offers some concluding remarks. 2. The model Consider
a small
open
economy
producing
K traded
goods.
Restrictions
*These studies of tariff and consumption tax reform address the issue within the context of a single-consumer small open economy. Diewert et al. (1989), among others, examine the problem of tariff and commodity tax reforms within the context of a many-consumer small open economy, ignoring the effects on government tax revenue. sbtternational institutions, such as the World Bank, view tariff reform, especially in developing countries, as an integral part of a broader indirect tax reform program promoting efficiency and revenue objectives [see Mitra (199O)J
MS. Michael et al., Integrated reforms of tariffs and consumption taxes
419
on goods exist (i.e. tariffs on imports and domestic consumption taxes). The country is small in world markets; changing its tariff and consumption tax rates does not affect the world prices of the traded goods. Let pf,tj, and rj denote the world price, the tariff rate, and the consumption tax on the jth good, respectively. Following standard practice, we assume that the consumption tax is imposed on the tariff-inclusive domestic price of the imported goods. Thus, the producer price of the jth good is pj=pr(l+ tj) and the consumer price is “j=Pj*(l +tj)(l +rj). Since our focus is on the revenue aspect of indirect taxation in LDCs, the case of export and consumption subsidies is omitted. Let rc and p denote the vectors of consumer and producer prices of the traded goods, respectively. Define E(rr,u) to be the minimum expenditure necessary to achieve utility u at consumer prices rc, and R(p) to be the maximum revenue from production at producer prices p. The expenditure and revenue functions are assumed to be concave and convex, respectively, and homogeneous of degree one in prices. The excess demand for the jth good (Zj) is given by
where Ej( =iYE/&rj) and Rj( =aR/ap,) are the compensated demand and the supply of the jth good. In equilibrium, the country’s expenditure equals the revenue from production plus net tariff and consumption tax revenue, which is distributed to consumers as lump-sum transfers .4 Thus, the incomeexpenditure identity is E(n,u)=R(p)+
5
tjpTZj+
j-1
3. Adjustments
5 rjpj*(l +tj)Ej. j-1
of indirect taxation without a government revenue constraint
We first examine the conditions under which adjustments in indirect taxation are welfare improving, assuming that government revenue is not a binding constraint. Differentiating eq. (2) and recalling that the country is small in world markets yields du=
5 ~jpT(l +tj)dEj+ j=l
f tjPj* dZj, j=l
where by choice of units we set E,= 1. Thus, changes in the country’s welfare due to changes in the tariff and consumption tax rates result from changes in 4Hatta (1986) in a model with variable labor supply and without lump-sum taxes, examines the conditions under which the movement of consumption taxes toward uniformity improves welfare while keeping revenue constant. As he notes, the availability of lump-sum taxes becomes irrelevant once tax rates are changed in a way that tax revenue remains constant.
420
MS. Michael
et al., Integrated
reforms of tariffs and consumption
taxes
domestic consumption patterns and excess demands. Using the definitions for producer prices (p), consumer prices (n), compensated demand for good j [i.e. Ej(n,u)], and eq. (l), changes in the country’s consumption and excess demand for the jth good due to a small change in the tariff rate on the nth good and a small change in the consumption tax on the ith good are given by dEj = p;( 1 + z,)Ej, dt, + p,*( 1+ ti)Eji dzi + Ej, du and
(4) dZj=p,*(l
+~,)Ej,dt,+p,*(l
+ ti)Ejidti+
Ej,du-p,*Rj,dt,,
where subscripts on the functions E,,, Eji, E,,, and Rj, denote partial derivatives (e.g. Ej, = i3Ej/&c,). The properties of the expenditure and revenue functions (i.e. Cj”=l ~jE,j=O and CjK_1pjRkj=O) give R,,= -Cj+kpjRkj/pk that Rkj= Rj, and and E,,= -&+k ~jE/cjI~k~ where k = i, n. Remembering E,, = Ejk, we have that jil tjpf Rjkpk*dt, =( C tjPJRjk-tkPk* C PjR,,iPk)Pt dt/c jfk
j#k
and
j~~P~EjkljP~(l’fk)dTk=(j~kP:Ejk~j-P:Z
j#k
where k =i, n. Using these relationships, substituting eqs. (4) into (3), as follows:
(1_4du=
we
.jEkj~kJnk)p:(l+lk)dik,
can
derive
eq.
(5),
(cd&+ C PyEjn(Yj-Yy,)PZ &
after
- C PTRjn(tj-tn)P,* i#fl
n
.l+n
n
where 6 =cT= 1pT yjEj,, (1 - 6) is positive assuming goods are normal in consumption, and yj=(tj+ tj+ tjzj). Since a tariff is equivalent to a consumption tax and a production subsidy, yj denotes the total tax burden rate on the jth good, coming directly from the consumption tax, and indirectly from the tariff rate.5 Using eq. (5), we are in a position to generalize some of the earlier results of the tariff and commodity tax reform literatures. 5Note that y,=(n,-pf )/p: is the proportional wedge between consumer caused by the combined operation of tariffs and consumption taxes.
and
world
prices,
M.S. Michael
et al., Integrated
reforms of tariffs and consumption taxes
421
Proposition 1. Assume that the ith good has the highest (lowest) total tax burden rate. A decrease (increase) in the consumption tax rate on the ith good, which reduces (increases) its total tax burden rate to the next highest (lowest) rate, increases welfare if the ith good is a substitute in consumption with the compound good consisting of all other goods. Similarly, l$ the nth good has the highest (lowest) total tax burden rate and the highest (lowest) tariff rate, then a decrease (increase) in the tariff on this good, so that either its total tax burden or tar@ rate first reaches the next highest (lowest) rate, increases welfare if the nth good is a substitute in consumption and production with the compound good consisting of all other goods.
An asymmetry exists between the conditions for welfare-improving tax and tariff reform.6 A change in the consumption tax improves welfare if it decreases (increases) the consumption tax on the good with the highest (lowest) tax burden. A change in the tariff rate improves welfare if it decreases (increases) the tariff rate on the good with the highest (lowest) tariff and tax burden rate. This asymmetry occurs because a consumption tax affects only consumption while a tariff - a consumption tax and a production and production. That is, a tariff subsidy - affects both consumption adjustment also affects the total tax burden rate. The ith good is a substitute (complement) in consumption and production with the jth good if E,, > 0 ( < 0) and Rji < 0 ( > 0), respectively. Let H, be the compound good denoting the group of all other goods of which the kth good is not a member, where k= i, n. If the kth good is a substitute with all other goods, then it is also a substitute with the compound good H,, but not vice versa [see Hatta (1986, pp. 103-104)]. The kth good is a substitute in consumption with the compound good H, if the increase in the price of H, raises the compensated demand for the kth good, and it is a substitute in production if the increase in the price of H, reduces the supply of the kth good. In the absence of consumption taxes, Proposition 1 generalizes the wellknown results of the tariff reform literature [e.g. Hatta (1977a) and Fukushima (1979)]. That is, reducing the highest tariff rate to the second highest rate improves welfare when the good carrying the highest tariff is a net substitute with all other goods in consumption and production. Similarly, in the absence of tariffs, Proposition 1 generalizes the well-known results of the commodity tax reform literature when the revenue effects of tax reforms
6The results of Proposition 1 also hold in the case where all types of import and export taxes and subsidies exist. Thus, the highest ti can be an import tariff or an export subsidy (i.e. ti>O) and the lowest t, can be an import subsidy or an export tax (i.e. t,
422
M.S. Michael et al., Integrated reforms of tariffs and consumption taxes
are ignored [e.g. see, among others, Hatta (1977b)]. That is, reducing the extreme commodity tax rate to the level of the second extreme tax rate improves welfare under substitutability in consumption between the good carrying the extreme consumption tax rate and all other goods. Finally, the results of Proposition 1, requiring only compound substitutability, are more general than those of the previous literature. Proposition 1 does not require the good with the extreme distortion to be a substitute with all other goods individually. 4. Adjustments
of indirect taxation under a government revenue constraint
The previous analysis determines the conditions under which adjustments of indirect taxation toward uniformity improve welfare when the government revenue constraint is not binding. Many LDCs are considering shifts from tariffs to other more efftcient tax instruments, such as consumption taxes, or are being pressured to do so under the guidelines of the World Bank or of the General Agreement on Tariffs and Trade (GATT). The LDCs, however, cannot undertake such reforms without seriously considering the consequences on their revenue, since tariffs are an important revenue source. The following analysis determines the conditions under which (i) a decrease in tariffs and an increase of consumption taxes, (ii) a movement of tax burden rates on goods toward uniformity, through adjustments in consumption taxes, and (iii) a movement of tariffs toward uniformity improve welfare and keep government tax revenue constant. The government tax revenue (G), which is distributed to consumers as a lump-sum transfer, equals the sum of tariff and consumption tax revenue. That is, G=
tj~TZj+
~ j= I
The change consumption
i:
ZjpT(l +tj)Ej.
(6)
j=l
in G due to a change in the tariff rate on the nth good and the tax on the ith good is given by dt, + ~ tj~j* dZj + Pn*z,E, dt, +p:( 1+ ti)Ei dzi
dG=p,*Z,
j=l
+
~
Pj*Zj(
1 + Cj) dEj.
(7)
j=l
Substituting
eqs. (4) into (7) and letting
sdu+l(l+t,)K.--A,+B,l(l+t.)
dG =0 produces
dtn
the following
dr. + CniEi + Bil(A=&=@ 1+ ziJ
result:
(8)
M.S. Michael et al., Integrated reforms of tar@ and consumption taxes
423
B,= and Ak=CjfkPTRjk(tj-ttk)Pk*, & = P:(& + ~I&~)~ -Y&p: k =i, n. Finally, substituting the definitions for A,, B,, ~~*~~~‘&. (5) y{elds where
(9) Eqs. (8) and (9) contain three variables du, dt,, and dz,. To determine the conditions under which the indirect tax reforms improve welfare, holding revenue constant, we can treat du and one of the two tax changes (dsi or dt,) as endogenous, and the other one as exogenous.
4.1. Decreasing
tarzffs and increasing consumption
taxes
Assume now that we increase zi and adjust t, so as to keep government revenue constant. Thus, we treat du and dt, as the endogenous variables and dTi as the exogenous policy instrument. Rearranging and rewriting the system of eqs. (8) and (9) gives l-6 6
(I+t~;!;-B;l.+B.][dtJP;(+fJ]=[-(q:;+Bi)]cid::i,’ (10)
Using the system of eqs. (lo), the welfare effect of changing tax on the ith good is given by (l+~i)A~=Bi(l+t,)~,+aiEi(A,-B,), L
the consumption
(11)
where A is the determinant of the left-hand-side coefficient matrix of eqs. (10) and is positive if the tariff rate on the nth good is revenue increasing (i.e.
aqat,
> 0).7
Eq. (11) reveals that an increase of the consumption tax on the ith good, which increases its total tax burden rate to the second lowest rate, increases welfare if Bi and A, are positive and if B, is negative. Bi is positive if the total tax burden rate on the ith good is the lowest, i.e. yi~yj for all j goods, and the ith good is a substitute in consumption with the compound good Hi. A, is positive if the tariff rate on the nth good is the highest, i.e. t, > tj for all j goods, and the nth good is a substitute in production with the compound good H,. Lastly, B, is negative if the total tax burden rate on the nth good is ‘In eqs. (8) and (9), treating du and dG as the endogenous variables and dt,, and dri as the exogenous variables, we can show that dG/dt, is positive, zero, or negative as A is positive, zero, or negative.
424
MS. Michael et al., Integrated
reforms of tariffs and consumption
taxes
the highest, i.e. y,, > yj for all j goods, and the nth good is a substitute in consumption with the compound good H,. Using eqs. (lo), the required adjustment in the tariff rate on the nth good accompanying the increase in the consumption tax on the ith good to keep government tax revenue constant is
=A
$+=-(1-6)7TiEi-Bi. n
T,
(12)
An increase in the consumption tax on the ith good requires a decrease in the tariff rate on the nth good, if the consumption tax on the ith good is revenue increasing. Similarly we can treat du and dzi as the endogenous variables, and dt, as the exogenous variable. By doing so we find that a decrease in tn, which reduces the total tax burden or the tariff rate on the nth good to the second highest rate, and an adjustment in si to keep government revenue constant, improve welfare if the nth good has the highest total tax burden and tariff rate and is a substitute in production and consumption with the compound good H,, and if the ith good has the lowest total tax burden rate and is a substitute in consumption with the compound good Hi. To keep revenue constant, the reduction in t, requires an increase in zi if the tariff rate on the nth good is revenue increasing. Proposition 2. An increase in the consumption tax on the ith good, which increases the total tax burden rate on this good to the second lowest rate, and the appropriate decrease in the tariff rate on the nth good to keep government revenue constant increase welfare if(i) the total tax burden rate on the ith good is the lowest and on the nth good is the highest, (ii) the tariff rate on the nth good is the highest, (iii) the nth and ith goods are substitutes in consumption with the compound goods H, and Hi, respectively, and the nth good is a substitute in production with the compound good H,, and (iv) the consumption tax on the ith good and the tariff rate on the nth good are both revenue increasing. Similarly, under conditions (i)+iv), a decrease in the tariff rate on the nth good, so that either its total tax burden or tariff rate first reaches the next highest rate, and the appropriate increase in the consumption tax on the ith good that keeps government revenue constant increase welfare.
4.2. Movements
of total ta.Y burden rates toward uniformity
This analysis can also be used to determine the conditions under which the movements toward uniformity of total tax burden rates on goods, through adjustments in consumption tax rates, improve welfare, while keeping government revenue constant. Using eqs. (1)46) and following the same
M.S. Michael et al., Integrated reforms of tarifj-, and consumption taxes
425
procedure as in subsection 4.1, we determine the welfare effect of increasing the consumption tax on the ith good when the consumption tax on the nth good is adjusted to keep government revenue constant as follows: (1 +r,)dl~
=~~E,Bi-niEiB,,
(13)
tax on the nth good is revenue where A, is positive if the consumption tax on the ith increasing. Eq. (13) shows that an increase in the consumption rate on this good to the second good, which raises the total tax burden lowest level, and an adjustment in the consumption tax on the nth good to keep revenue constant increase welfare if Bi is positive and if B, is negative. This occurs when (i) the ith good has the lowest total tax burden rate, (ii) the nth good has the highest total tax burden rate, and (iii) the ith and the nth goods are substitutes in consumption with the compound goods Hi and H,, respectively. To keep revenue constant, the increase in the consumption tax on the ith good requires a decrease in the consumption tax on the nth good if the consumption tax on the ith good is revenue increasing. Proposition 3. An increase in the consumption tax rate on the ith good, which raises its total tax burden rate to the second lowest rate, and the appropriate decrease in the consumption tax rate on the nth good to keep government revenue constant improve welfare if(i) the total tax burden rate on the ith good is the lowest and on the nth good it is the highest, (ii) the consumption tax on each good is revenue increasing, and (iii) the ith and nth goods are substitutes in consumption with the compound goods Hi and H,, respectively.
When the tariff rates are zero, Proposition 3 gives Hatta’s (1986) Theorem 1, where he assumes that only consumption taxes exist, that labor supply is variable, and that no lump-sum taxes exist. The present analysis, on the other hand, assumes that labor supply is constant and that lump-sum taxes exist. In our one-consumer model under the conditions specified in Proposition 3, moving the total tax burden rates on goods toward uniformity: through adjustments in consumption taxes, improves welfare. In a model with many non-identical consumers, however, departing from uniform consumption tax rates, absent tariffs, may improve welfare [see Ahmad and Stern (1984)].
4.3.
Movement
of tariff rates toward untformity
Hatta (1977a) and Fukushima (1979) derive the conditions for a tariff reform to improve welfare without requiring that tariff revenue remain constant. In this subsection we examine a tariff reform program that
426
M.S. Michael et al., Integrated reforms of tariffs and consumption taxes
improves welfare and keeps government revenue constant, assuming that consumption taxes are zero. Using eqs. (1)+6) and following the same procedure as in subsection 4.1, we determine the welfare effect of decreasing the tariff rate on the ith good when the tariff rate on the nth good is adjusted to keep government revenue constant as follows: (14) where A is defined as in subsection 4.1. Eq. (14) shows that decreasing the tariff rate on the ith good to the second highest tariff and adjusting the tariff rate on the nth good to keep revenue constant increase welfare if (+-A,) is negative and (&-A,) is positive. Since consumption taxes are zero, Bi- Ai= and the same expression holds for B,- A,, where Cj~ipr(Eji--ji)(tj-ti)p,*, n replaces i. These conditions hold when the ith good has the highest tariff rate, the nth good has the lowest tariff rate, and the ith and nth goods are net substitutes with the compound good Hi and H,, respectively. The ith good is a net substitute with the compound good Hi when an increase in the price of the compound good Hi increases the excess demand for the ith good. If the tariff rate on the ith good is revenue increasing, then the tariff rate on the nth good should increase to keep revenue constant. Proposition 4. Assume zero consumption taxes. A decrease in the targff rate on the ith good to the second-highest tar$ rate and the appropriate increase in the tariff rate on the nth good to keep government revenue constant increase welfare if(i) the tariff rate on the ith and nth goods are the highest and lowest, respectively, (ii) the tariff rate on each good is revenue increasing, and (iii) the ith and nth goods are net substitutes with the compound goods Hi and H,, respectively. Under these conditions, welfare also improves by increasing the lowest tarif rate to the second lowest and by appropriately decreasing the highest tar@rate to keep revenue constant.
Proposition 4 is analogous to Hatta’s (1986) Theorem 1, where instead of tariffs he uses commodity taxes. ’ A similar, if slightly more complex, proposition emerges when consumption taxes are not zero. Using eq. (14), we 8The present analysis considers only import tariffs. Proposition 4 also holds in certain cases where import and export taxes and subsidies exist. For example, under the conditions of Proposition 4, welfare improves if (i) the highest ti is a tariff and the lowest t, is an import subsidy (i.e. t,iO) and we reduce the highest tarifl rate and appropriately reduce the highest import subsidy to keep revenue constant, and (ii) the highest ti is an export subsidy (i.e. ti>O) and the lowest t, is an export tax (i.e. t,
MS. Michael et al., Integrated reforms of tariffs and consumption taxes
421
can show that if (i) the ith and nth goods have the highest and lowest tariff and tax burden rates, respectively, (ii) the tariff rate on the ith and the nth goods are revenue increasing, and (iii) the ith and nth goods are substitutes in production and consumption with the compound good Hi and H,, respectively, then by decreasing the tariff rate on the ith good so that either its total tax burden or the tariff rate itself first reaches the next highest rate and the appropriate increase in the lowest tariff rate to keep revenue constant, improves welfare.’ As in the case of Proposition 1, an asymmetry exists between reducing the extreme tariff rate and the extreme consumption tax rate (see also Proposition 3).
5. Concluding remarks
International institutions, such as the World Bank and the GATT, call for LDCs to shift from high tariffs to more efficient means of indirect taxation (e.g. consumption taxes). Recognizing a need for tax revenue, we develop a many-good general equilibrium trade model of a small open economy where factor supplies are fixed, and tariffs on imports and consumption taxes exist. Within this framework we identify conditions under which the reduction of tariff rates and the increase in consumption taxes improve welfare while holding revenue from indirect taxation constant. Under the conditions specified in Proposition 2, the integrated reform of the indirect tax structure improves welfare by transferring the function of generating government revenue from high tariff rates to consumption taxes.” We also identify conditions under which welfare improves while government revenue is kept constant by moving the total tax burden rates on goods toward unifomity through adjustments in consumption tax rates, and by moving the tariff rates toward uniformity with and without consumption taxes. ‘This result, unlike
Proposition
4, only holds for import
taxes or subsidies
(see also footnote
8). “Our analytical results provide a theoretical rationale for the rules of thumb reform in tariNs and domestic indirect taxes proposed by Mitra (1990).
for coordinated
References Ahmad, E. and N. Stern, 1984, The theory of reform and Indian indirect taxes, Journal of Public Economics 25, 254-298. Diewert, W., A. Turunen-Red and A. Woodland, 1989, Productivityand Pareto-improving changes in taxes and tariffs, Review of Economic Studies 56, 199-216. Dixit, A., 1985, Tax policies in open economies, in: A. Auerbach and M. Feldstein, eds., Handbook of public economics, vol 1 (North-Holland, Amsterdam). Fukushima, T., 1979, Tariff structure, nontraded goods and the theory of piecemeal policy recommendation, International Economic Review 20, 427-435.
428
MS.
Michael et al., Integrated
reforms of tariffs and consumption
taxes
Hatta, T., 1977a, A recommendation for a better tariff structure, Econometrica 45, 1859-1869. Hatta, T., 1977b, A theory of piecemeal policy recommendation, Review of Economic Studies 44, 1-21. Hatta, T., 1986, Welfare effects of changing commodity tax rates towards uniformity, Journal of Public Economics 29, 99-l 12. Mitra, P., 1990, The coordinated reform of tariffs and domestic indirect taxes, PRE Working paper no. 490, The World Bank.
of Public
Economics
52 (1993) 417428.
North-Holland
Integrated reforms of tariffs and consumption taxes Michael Miller* Department Received
S. Michael, ofEconomics,U-63,
November
Panos Hatzipanayotou
and Stephen
University of Connecticut, Storm, CT06269-1063,
1991, final version received
September
M.
USA
1992
The literatures on tariffs and commodity taxes have independently established suflicient conditions under which a tariff or commodity tax reform improves welfare. The present paper considers policy reforms within an integrated indirect tax structure. Given the relative inefficiency of tariffs to consumption taxes, given the existing high tariffs in less-developed countries (LDCs), and given the LDCs’ need to raise certain revenue from indirect taxation, we identify conditions under which decreasing tariffs and increasing consumption tax rates improve welfare while government revenue remains constant. We also examine with and without the constant revenue constraint the conditions under which the movement of the total tax burden rates toward uniformity, through adjustments in consumption tax and tariff rates, improves welfare.
1. Introduction Most countries have relied historically on tariffs as a primary source of government revenue. Although easier to implement and administer, tariffs are inefficient relative to other revenue generating instruments (e.g. consumption taxes) because of the induced consumption and production distortions [e.g. see Dixit (1985)]. Thus, government revenue from tariffs has declined in most developed countries with trade liberalization, and has been replaced by revenue from other tax instruments such as progressive income taxes, and sales and value added taxes. The share of total government revenue accounted for by tariff revenue in many developing countries, nonetheless, still remains high.’ Developing countries generally find it easier to tax foreign trade at their ports, because of the limited administrative apparatus associated with tariffs, than to adopt the more complex tax systems of Correspondence to: Stephen M. Miller, Department of Economics, U-63, University Connecticut, Storrs, CT 06269-1063, USA, Fax-(203) 4864463. *The authors acknowledge the comments of two anonymous referees on earlier versions this paper. ‘For example, tariff revenue as a percent of government current revenue in 1987 was percent in Gambia, 55 percent in Lesotho, 30 percent in Pakistan, India, and Guatemala, and percent in the Philippines. 004772727/93/$06.00
0
1993-Elsevier
Science Publishers
B.V. All rights reserved
of of 69 25
M.S. Michael et al., Integrated reforms 01 tariffs and consumption taxes
418
developed countries. In due course, the development process will cause some of these countries also to shift from tariffs to commodity and income taxes as the primary sources of government revenue. This eventual shift to more efficient (less distortionary) tax instruments, however, may induce equally serious problems for these developing countries. The theory of second best demonstrates that arbitrary changes in distortions (e.g. reductions of tariffs and increases of consumption taxes) may reduce a country’s welfare. Responding to the difficulties of piecemeal policy reform, the literature on tariffs has established sufficient conditions under which tariff reform (i.e. uniform reduction of tariff rates, or reducing the highest tariff rate toward the second highest rate) improves welfare, ignoring, however, the effects on tariff revenue [e.g. Hatta (1977a) and Fukushima (1979)]. On the other hand, the literature on commodity tax reform has established sufficient conditions under which tax changes (e.g. movement of consumption taxes toward uniformity) improve welfare either ignoring the effects on commodity tax revenue [e.g. Hatta (1977b)J or assuming that the initial commodity tax revenue must be maintained after the reform [e.g. Hatta (1986)].* In general, the literatures on tariff and commodity tax reforms have evaluated the welfare effects of either tariff or commodity tax adjustments independently, without paying sufficient attention to the effect of changing indirect taxation on government revenue. Given that LDCs’ need to raise certain revenue from indirect taxation, our analysis considers reforms within the indirect tax system that improve welfare and keep government revenue constant.3 Specifically, given high tariffs and low consumption taxes, and given the well-known relative inefficiencies of tariffs to consumption taxes, we identify conditions under which the reduction of tariffs and increases in consumption taxes improve welfare while keeping government revenue constant. Section 2 develops a general equilibrium trade model of a small open economy with fixed factor supplies. Section 3 examines the conditions under which adjustments in indirect taxation are welfare improving, ignoring the government revenue effects of such tax reforms. Section 4 considers the conditions where reforms of indirect taxation keep revenue constant and improve welfare. The last section offers some concluding remarks. 2. The model Consider
a small
open
economy
producing
K traded
goods.
Restrictions
*These studies of tariff and consumption tax reform address the issue within the context of a single-consumer small open economy. Diewert et al. (1989), among others, examine the problem of tariff and commodity tax reforms within the context of a many-consumer small open economy, ignoring the effects on government tax revenue. sbtternational institutions, such as the World Bank, view tariff reform, especially in developing countries, as an integral part of a broader indirect tax reform program promoting efficiency and revenue objectives [see Mitra (199O)J
MS. Michael et al., Integrated reforms of tariffs and consumption taxes
419
on goods exist (i.e. tariffs on imports and domestic consumption taxes). The country is small in world markets; changing its tariff and consumption tax rates does not affect the world prices of the traded goods. Let pf,tj, and rj denote the world price, the tariff rate, and the consumption tax on the jth good, respectively. Following standard practice, we assume that the consumption tax is imposed on the tariff-inclusive domestic price of the imported goods. Thus, the producer price of the jth good is pj=pr(l+ tj) and the consumer price is “j=Pj*(l +tj)(l +rj). Since our focus is on the revenue aspect of indirect taxation in LDCs, the case of export and consumption subsidies is omitted. Let rc and p denote the vectors of consumer and producer prices of the traded goods, respectively. Define E(rr,u) to be the minimum expenditure necessary to achieve utility u at consumer prices rc, and R(p) to be the maximum revenue from production at producer prices p. The expenditure and revenue functions are assumed to be concave and convex, respectively, and homogeneous of degree one in prices. The excess demand for the jth good (Zj) is given by
where Ej( =iYE/&rj) and Rj( =aR/ap,) are the compensated demand and the supply of the jth good. In equilibrium, the country’s expenditure equals the revenue from production plus net tariff and consumption tax revenue, which is distributed to consumers as lump-sum transfers .4 Thus, the incomeexpenditure identity is E(n,u)=R(p)+
5
tjpTZj+
j-1
3. Adjustments
5 rjpj*(l +tj)Ej. j-1
of indirect taxation without a government revenue constraint
We first examine the conditions under which adjustments in indirect taxation are welfare improving, assuming that government revenue is not a binding constraint. Differentiating eq. (2) and recalling that the country is small in world markets yields du=
5 ~jpT(l +tj)dEj+ j=l
f tjPj* dZj, j=l
where by choice of units we set E,= 1. Thus, changes in the country’s welfare due to changes in the tariff and consumption tax rates result from changes in 4Hatta (1986) in a model with variable labor supply and without lump-sum taxes, examines the conditions under which the movement of consumption taxes toward uniformity improves welfare while keeping revenue constant. As he notes, the availability of lump-sum taxes becomes irrelevant once tax rates are changed in a way that tax revenue remains constant.
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et al., Integrated
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taxes
domestic consumption patterns and excess demands. Using the definitions for producer prices (p), consumer prices (n), compensated demand for good j [i.e. Ej(n,u)], and eq. (l), changes in the country’s consumption and excess demand for the jth good due to a small change in the tariff rate on the nth good and a small change in the consumption tax on the ith good are given by dEj = p;( 1 + z,)Ej, dt, + p,*( 1+ ti)Eji dzi + Ej, du and
(4) dZj=p,*(l
+~,)Ej,dt,+p,*(l
+ ti)Ejidti+
Ej,du-p,*Rj,dt,,
where subscripts on the functions E,,, Eji, E,,, and Rj, denote partial derivatives (e.g. Ej, = i3Ej/&c,). The properties of the expenditure and revenue functions (i.e. Cj”=l ~jE,j=O and CjK_1pjRkj=O) give R,,= -Cj+kpjRkj/pk that Rkj= Rj, and and E,,= -&+k ~jE/cjI~k~ where k = i, n. Remembering E,, = Ejk, we have that jil tjpf Rjkpk*dt, =( C tjPJRjk-tkPk* C PjR,,iPk)Pt dt/c jfk
j#k
and
j~~P~EjkljP~(l’fk)dTk=(j~kP:Ejk~j-P:Z
j#k
where k =i, n. Using these relationships, substituting eqs. (4) into (3), as follows:
(1_4du=
we
.jEkj~kJnk)p:(l+lk)dik,
can
derive
eq.
(5),
(cd&+ C PyEjn(Yj-Yy,)PZ &
after
- C PTRjn(tj-tn)P,* i#fl
n
.l+n
n
where 6 =cT= 1pT yjEj,, (1 - 6) is positive assuming goods are normal in consumption, and yj=(tj+ tj+ tjzj). Since a tariff is equivalent to a consumption tax and a production subsidy, yj denotes the total tax burden rate on the jth good, coming directly from the consumption tax, and indirectly from the tariff rate.5 Using eq. (5), we are in a position to generalize some of the earlier results of the tariff and commodity tax reform literatures. 5Note that y,=(n,-pf )/p: is the proportional wedge between consumer caused by the combined operation of tariffs and consumption taxes.
and
world
prices,
M.S. Michael
et al., Integrated
reforms of tariffs and consumption taxes
421
Proposition 1. Assume that the ith good has the highest (lowest) total tax burden rate. A decrease (increase) in the consumption tax rate on the ith good, which reduces (increases) its total tax burden rate to the next highest (lowest) rate, increases welfare if the ith good is a substitute in consumption with the compound good consisting of all other goods. Similarly, l$ the nth good has the highest (lowest) total tax burden rate and the highest (lowest) tariff rate, then a decrease (increase) in the tariff on this good, so that either its total tax burden or tar@ rate first reaches the next highest (lowest) rate, increases welfare if the nth good is a substitute in consumption and production with the compound good consisting of all other goods.
An asymmetry exists between the conditions for welfare-improving tax and tariff reform.6 A change in the consumption tax improves welfare if it decreases (increases) the consumption tax on the good with the highest (lowest) tax burden. A change in the tariff rate improves welfare if it decreases (increases) the tariff rate on the good with the highest (lowest) tariff and tax burden rate. This asymmetry occurs because a consumption tax affects only consumption while a tariff - a consumption tax and a production and production. That is, a tariff subsidy - affects both consumption adjustment also affects the total tax burden rate. The ith good is a substitute (complement) in consumption and production with the jth good if E,, > 0 ( < 0) and Rji < 0 ( > 0), respectively. Let H, be the compound good denoting the group of all other goods of which the kth good is not a member, where k= i, n. If the kth good is a substitute with all other goods, then it is also a substitute with the compound good H,, but not vice versa [see Hatta (1986, pp. 103-104)]. The kth good is a substitute in consumption with the compound good H, if the increase in the price of H, raises the compensated demand for the kth good, and it is a substitute in production if the increase in the price of H, reduces the supply of the kth good. In the absence of consumption taxes, Proposition 1 generalizes the wellknown results of the tariff reform literature [e.g. Hatta (1977a) and Fukushima (1979)]. That is, reducing the highest tariff rate to the second highest rate improves welfare when the good carrying the highest tariff is a net substitute with all other goods in consumption and production. Similarly, in the absence of tariffs, Proposition 1 generalizes the well-known results of the commodity tax reform literature when the revenue effects of tax reforms
6The results of Proposition 1 also hold in the case where all types of import and export taxes and subsidies exist. Thus, the highest ti can be an import tariff or an export subsidy (i.e. ti>O) and the lowest t, can be an import subsidy or an export tax (i.e. t,
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M.S. Michael et al., Integrated reforms of tariffs and consumption taxes
are ignored [e.g. see, among others, Hatta (1977b)]. That is, reducing the extreme commodity tax rate to the level of the second extreme tax rate improves welfare under substitutability in consumption between the good carrying the extreme consumption tax rate and all other goods. Finally, the results of Proposition 1, requiring only compound substitutability, are more general than those of the previous literature. Proposition 1 does not require the good with the extreme distortion to be a substitute with all other goods individually. 4. Adjustments
of indirect taxation under a government revenue constraint
The previous analysis determines the conditions under which adjustments of indirect taxation toward uniformity improve welfare when the government revenue constraint is not binding. Many LDCs are considering shifts from tariffs to other more efftcient tax instruments, such as consumption taxes, or are being pressured to do so under the guidelines of the World Bank or of the General Agreement on Tariffs and Trade (GATT). The LDCs, however, cannot undertake such reforms without seriously considering the consequences on their revenue, since tariffs are an important revenue source. The following analysis determines the conditions under which (i) a decrease in tariffs and an increase of consumption taxes, (ii) a movement of tax burden rates on goods toward uniformity, through adjustments in consumption taxes, and (iii) a movement of tariffs toward uniformity improve welfare and keep government tax revenue constant. The government tax revenue (G), which is distributed to consumers as a lump-sum transfer, equals the sum of tariff and consumption tax revenue. That is, G=
tj~TZj+
~ j= I
The change consumption
i:
ZjpT(l +tj)Ej.
(6)
j=l
in G due to a change in the tariff rate on the nth good and the tax on the ith good is given by dt, + ~ tj~j* dZj + Pn*z,E, dt, +p:( 1+ ti)Ei dzi
dG=p,*Z,
j=l
+
~
Pj*Zj(
1 + Cj) dEj.
(7)
j=l
Substituting
eqs. (4) into (7) and letting
sdu+l(l+t,)K.--A,+B,l(l+t.)
dG =0 produces
dtn
the following
dr. + CniEi + Bil(A=&=@ 1+ ziJ
result:
(8)
M.S. Michael et al., Integrated reforms of tar@ and consumption taxes
423
B,= and Ak=CjfkPTRjk(tj-ttk)Pk*, & = P:(& + ~I&~)~ -Y&p: k =i, n. Finally, substituting the definitions for A,, B,, ~~*~~~‘&. (5) y{elds where
(9) Eqs. (8) and (9) contain three variables du, dt,, and dz,. To determine the conditions under which the indirect tax reforms improve welfare, holding revenue constant, we can treat du and one of the two tax changes (dsi or dt,) as endogenous, and the other one as exogenous.
4.1. Decreasing
tarzffs and increasing consumption
taxes
Assume now that we increase zi and adjust t, so as to keep government revenue constant. Thus, we treat du and dt, as the endogenous variables and dTi as the exogenous policy instrument. Rearranging and rewriting the system of eqs. (8) and (9) gives l-6 6
(I+t~;!;-B;l.+B.][dtJP;(+fJ]=[-(q:;+Bi)]cid::i,’ (10)
Using the system of eqs. (lo), the welfare effect of changing tax on the ith good is given by (l+~i)A~=Bi(l+t,)~,+aiEi(A,-B,), L
the consumption
(11)
where A is the determinant of the left-hand-side coefficient matrix of eqs. (10) and is positive if the tariff rate on the nth good is revenue increasing (i.e.
aqat,
> 0).7
Eq. (11) reveals that an increase of the consumption tax on the ith good, which increases its total tax burden rate to the second lowest rate, increases welfare if Bi and A, are positive and if B, is negative. Bi is positive if the total tax burden rate on the ith good is the lowest, i.e. yi~yj for all j goods, and the ith good is a substitute in consumption with the compound good Hi. A, is positive if the tariff rate on the nth good is the highest, i.e. t, > tj for all j goods, and the nth good is a substitute in production with the compound good H,. Lastly, B, is negative if the total tax burden rate on the nth good is ‘In eqs. (8) and (9), treating du and dG as the endogenous variables and dt,, and dri as the exogenous variables, we can show that dG/dt, is positive, zero, or negative as A is positive, zero, or negative.
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MS. Michael et al., Integrated
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taxes
the highest, i.e. y,, > yj for all j goods, and the nth good is a substitute in consumption with the compound good H,. Using eqs. (lo), the required adjustment in the tariff rate on the nth good accompanying the increase in the consumption tax on the ith good to keep government tax revenue constant is
=A
$+=-(1-6)7TiEi-Bi. n
T,
(12)
An increase in the consumption tax on the ith good requires a decrease in the tariff rate on the nth good, if the consumption tax on the ith good is revenue increasing. Similarly we can treat du and dzi as the endogenous variables, and dt, as the exogenous variable. By doing so we find that a decrease in tn, which reduces the total tax burden or the tariff rate on the nth good to the second highest rate, and an adjustment in si to keep government revenue constant, improve welfare if the nth good has the highest total tax burden and tariff rate and is a substitute in production and consumption with the compound good H,, and if the ith good has the lowest total tax burden rate and is a substitute in consumption with the compound good Hi. To keep revenue constant, the reduction in t, requires an increase in zi if the tariff rate on the nth good is revenue increasing. Proposition 2. An increase in the consumption tax on the ith good, which increases the total tax burden rate on this good to the second lowest rate, and the appropriate decrease in the tariff rate on the nth good to keep government revenue constant increase welfare if(i) the total tax burden rate on the ith good is the lowest and on the nth good is the highest, (ii) the tariff rate on the nth good is the highest, (iii) the nth and ith goods are substitutes in consumption with the compound goods H, and Hi, respectively, and the nth good is a substitute in production with the compound good H,, and (iv) the consumption tax on the ith good and the tariff rate on the nth good are both revenue increasing. Similarly, under conditions (i)+iv), a decrease in the tariff rate on the nth good, so that either its total tax burden or tariff rate first reaches the next highest rate, and the appropriate increase in the consumption tax on the ith good that keeps government revenue constant increase welfare.
4.2. Movements
of total ta.Y burden rates toward uniformity
This analysis can also be used to determine the conditions under which the movements toward uniformity of total tax burden rates on goods, through adjustments in consumption tax rates, improve welfare, while keeping government revenue constant. Using eqs. (1)46) and following the same
M.S. Michael et al., Integrated reforms of tarifj-, and consumption taxes
425
procedure as in subsection 4.1, we determine the welfare effect of increasing the consumption tax on the ith good when the consumption tax on the nth good is adjusted to keep government revenue constant as follows: (1 +r,)dl~
=~~E,Bi-niEiB,,
(13)
tax on the nth good is revenue where A, is positive if the consumption tax on the ith increasing. Eq. (13) shows that an increase in the consumption rate on this good to the second good, which raises the total tax burden lowest level, and an adjustment in the consumption tax on the nth good to keep revenue constant increase welfare if Bi is positive and if B, is negative. This occurs when (i) the ith good has the lowest total tax burden rate, (ii) the nth good has the highest total tax burden rate, and (iii) the ith and the nth goods are substitutes in consumption with the compound goods Hi and H,, respectively. To keep revenue constant, the increase in the consumption tax on the ith good requires a decrease in the consumption tax on the nth good if the consumption tax on the ith good is revenue increasing. Proposition 3. An increase in the consumption tax rate on the ith good, which raises its total tax burden rate to the second lowest rate, and the appropriate decrease in the consumption tax rate on the nth good to keep government revenue constant improve welfare if(i) the total tax burden rate on the ith good is the lowest and on the nth good it is the highest, (ii) the consumption tax on each good is revenue increasing, and (iii) the ith and nth goods are substitutes in consumption with the compound goods Hi and H,, respectively.
When the tariff rates are zero, Proposition 3 gives Hatta’s (1986) Theorem 1, where he assumes that only consumption taxes exist, that labor supply is variable, and that no lump-sum taxes exist. The present analysis, on the other hand, assumes that labor supply is constant and that lump-sum taxes exist. In our one-consumer model under the conditions specified in Proposition 3, moving the total tax burden rates on goods toward uniformity: through adjustments in consumption taxes, improves welfare. In a model with many non-identical consumers, however, departing from uniform consumption tax rates, absent tariffs, may improve welfare [see Ahmad and Stern (1984)].
4.3.
Movement
of tariff rates toward untformity
Hatta (1977a) and Fukushima (1979) derive the conditions for a tariff reform to improve welfare without requiring that tariff revenue remain constant. In this subsection we examine a tariff reform program that
426
M.S. Michael et al., Integrated reforms of tariffs and consumption taxes
improves welfare and keeps government revenue constant, assuming that consumption taxes are zero. Using eqs. (1)+6) and following the same procedure as in subsection 4.1, we determine the welfare effect of decreasing the tariff rate on the ith good when the tariff rate on the nth good is adjusted to keep government revenue constant as follows: (14) where A is defined as in subsection 4.1. Eq. (14) shows that decreasing the tariff rate on the ith good to the second highest tariff and adjusting the tariff rate on the nth good to keep revenue constant increase welfare if (+-A,) is negative and (&-A,) is positive. Since consumption taxes are zero, Bi- Ai= and the same expression holds for B,- A,, where Cj~ipr(Eji--ji)(tj-ti)p,*, n replaces i. These conditions hold when the ith good has the highest tariff rate, the nth good has the lowest tariff rate, and the ith and nth goods are net substitutes with the compound good Hi and H,, respectively. The ith good is a net substitute with the compound good Hi when an increase in the price of the compound good Hi increases the excess demand for the ith good. If the tariff rate on the ith good is revenue increasing, then the tariff rate on the nth good should increase to keep revenue constant. Proposition 4. Assume zero consumption taxes. A decrease in the targff rate on the ith good to the second-highest tar$ rate and the appropriate increase in the tariff rate on the nth good to keep government revenue constant increase welfare if(i) the tariff rate on the ith and nth goods are the highest and lowest, respectively, (ii) the tariff rate on each good is revenue increasing, and (iii) the ith and nth goods are net substitutes with the compound goods Hi and H,, respectively. Under these conditions, welfare also improves by increasing the lowest tarif rate to the second lowest and by appropriately decreasing the highest tar@rate to keep revenue constant.
Proposition 4 is analogous to Hatta’s (1986) Theorem 1, where instead of tariffs he uses commodity taxes. ’ A similar, if slightly more complex, proposition emerges when consumption taxes are not zero. Using eq. (14), we 8The present analysis considers only import tariffs. Proposition 4 also holds in certain cases where import and export taxes and subsidies exist. For example, under the conditions of Proposition 4, welfare improves if (i) the highest ti is a tariff and the lowest t, is an import subsidy (i.e. t,iO) and we reduce the highest tarifl rate and appropriately reduce the highest import subsidy to keep revenue constant, and (ii) the highest ti is an export subsidy (i.e. ti>O) and the lowest t, is an export tax (i.e. t,
MS. Michael et al., Integrated reforms of tariffs and consumption taxes
421
can show that if (i) the ith and nth goods have the highest and lowest tariff and tax burden rates, respectively, (ii) the tariff rate on the ith and the nth goods are revenue increasing, and (iii) the ith and nth goods are substitutes in production and consumption with the compound good Hi and H,, respectively, then by decreasing the tariff rate on the ith good so that either its total tax burden or the tariff rate itself first reaches the next highest rate and the appropriate increase in the lowest tariff rate to keep revenue constant, improves welfare.’ As in the case of Proposition 1, an asymmetry exists between reducing the extreme tariff rate and the extreme consumption tax rate (see also Proposition 3).
5. Concluding remarks
International institutions, such as the World Bank and the GATT, call for LDCs to shift from high tariffs to more efficient means of indirect taxation (e.g. consumption taxes). Recognizing a need for tax revenue, we develop a many-good general equilibrium trade model of a small open economy where factor supplies are fixed, and tariffs on imports and consumption taxes exist. Within this framework we identify conditions under which the reduction of tariff rates and the increase in consumption taxes improve welfare while holding revenue from indirect taxation constant. Under the conditions specified in Proposition 2, the integrated reform of the indirect tax structure improves welfare by transferring the function of generating government revenue from high tariff rates to consumption taxes.” We also identify conditions under which welfare improves while government revenue is kept constant by moving the total tax burden rates on goods toward unifomity through adjustments in consumption tax rates, and by moving the tariff rates toward uniformity with and without consumption taxes. ‘This result, unlike
Proposition
4, only holds for import
taxes or subsidies
(see also footnote
8). “Our analytical results provide a theoretical rationale for the rules of thumb reform in tariNs and domestic indirect taxes proposed by Mitra (1990).
for coordinated
References Ahmad, E. and N. Stern, 1984, The theory of reform and Indian indirect taxes, Journal of Public Economics 25, 254-298. Diewert, W., A. Turunen-Red and A. Woodland, 1989, Productivityand Pareto-improving changes in taxes and tariffs, Review of Economic Studies 56, 199-216. Dixit, A., 1985, Tax policies in open economies, in: A. Auerbach and M. Feldstein, eds., Handbook of public economics, vol 1 (North-Holland, Amsterdam). Fukushima, T., 1979, Tariff structure, nontraded goods and the theory of piecemeal policy recommendation, International Economic Review 20, 427-435.
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Michael et al., Integrated
reforms of tariffs and consumption
taxes
Hatta, T., 1977a, A recommendation for a better tariff structure, Econometrica 45, 1859-1869. Hatta, T., 1977b, A theory of piecemeal policy recommendation, Review of Economic Studies 44, 1-21. Hatta, T., 1986, Welfare effects of changing commodity tax rates towards uniformity, Journal of Public Economics 29, 99-l 12. Mitra, P., 1990, The coordinated reform of tariffs and domestic indirect taxes, PRE Working paper no. 490, The World Bank.