A political economy of tax havens
Appendix 4.3.: Nonlinear damage function
Appendix 4.3.: Nonlinear damage function
We assume that country A is the high-damage country in the sense that DA DB if eA eB. Without trading, each country maximizes its own welfare function with respect to the domestic emissions:
)
The first-order condition of welfare maximization is:
) (
)
(eic Di' eic eci
F . (A4.7)
Then we turn to the scenario with emission allowance trading. In the second stage, the firm’s emitting and trading behavior will be the same as eq. (4.3)-(4.7).
Under the non-cooperative trading scheme, the objective function of country i turns to be:
By utilizing (4.4) and (4.7),the first-order condition for the problem can be written as:
( ) (1 ) 0
By summing (A4.9) for both countries, we can obtain the equilibrium price for permits under the non-cooperative trading scheme:
(1 )[ ( ) ( )]
Next, inserting (A4.10) into (A4.9) gives:
(1 )[ ( ) ( )]
‧
Hence we have proved Proposition 4.1.
Under a Nash-bargaining scheme, the joint welfare function and first-order conditions for the maximization of the social welfare will be the same as eq.
(4.13)-(4.15).
We can rewrite the first-order conditions for the maximization of the social welfare under an nonlinear damage function as follows:
)
Thus, the equilibrium price under an nonlinear damage function will turn to be:
(1 )[ ( ) ( )]
Similarly, in discussion of a permit seller and buyer status, if (A4.2”) equals to zero, the equilibrium permit price will be zero and emission will be infinite. Hence, the high-damage country will choose to set B 0and become a permit seller. If the opposite situation holds, the high-damage country will be left with no emission allowances and still be a permit buyer. Therefore, Proposition 4.2 still holds.
As the comparison for the emission level, we differentiate (A4.10) and (A4.13) with respect to , which gives: pollution now also affects the emissions in a closed economy.
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Chapter V
Conclusions
This dissertation tries to address important issues on the policy design of capital tax and environmental policies under the framework of political economics.
In Chapter II, it is shown that a stricter enforcement policy may lead to a higher pollution level and reduce social welfare, which is somewhat in contrast to conventional wisdom. We show that in the case where the polluting firms have a relatively large political influence, tightening the enforcement policy lifts up the incentive for them to lobby for a lower emission tax rate. Hence, the equilibrium emission tax rate will deviate away from the optimal level and reduce the social welfare. In the short run, without the political influence and given the environmental tax rate, some empirical papers provide evidence on the fact that auditing is useful to reduce pollution emission (see, for example, Dasgupta et al., 2001; Foulon et al., 2002). However, considering that interest groups might lobby for a lower tax rate, neglecting the political influence might lead to inadequate designs of policies. Further empirical studies on the interaction among related environment policy instruments are called for to examine the possibility of this inverse relationship.
In Chapter III, we find that, in the presence of lobbying, neither a unilateral loose of the international tax planning nor a global cooperation to depress the utilization of tax havens can enhance the welfare of all countries. International organizations and several countries have campaigned against tax havens based on the claims that excessive international tax planning will erode high-tax countries’ tax base and waste resources on non-productive work, and thus is harmful. However, a recent paper by Hong and Smart (2010) argues that tax havens can enhance high-tax countries’ social welfare by providing channels for different treatment to different type of capital,
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which enhances efficiency. Nevertheless, by constructing a standard tax competition model incorporating tax havens and interest groups, we show that an increase in the tax planning activity might induce stronger lobbying incentives. If the political effect outweighs the efficiency consideration of desirable differential tax treatment of capital, it will reduce the country’s social welfare. Hong and Smart (2010) indicate that the median value of combined corporate and personal tax rates on capital in G7 countries is 52 per cent, remaining relatively stable in response to the rise of tax havens.
However, OECD (2000) statistics reveal that the average effective tax rate on capital in countries such as Japan, United Kingdom and Ireland show a downward trend in 1980-1997, while countries such as Canada and Italy increase their capital tax rate during the same period. According to our analysis, these different responses in face of an increase in utilization of international tax planning might result from domestic political intervene.
In Chapter IV, it is shown that the global emissions under different schemes are closely related to the spillover effect of transboundary pollution and the damage function form. In addition, IET might result in a higher or lower emission level than that without trade, depending on the way that initial emission allowances are determined. We highlight the possibility of political distortion in the choice of IET trade design to worsen the environmental quality and aggregate welfare. For example, the emission allowances of the EU-ETS, the world’s first and largest multinational cap-and-trade program to limit global warming pollution, was determined through a bargaining process. One of the central findings from the experience with the EU-ETS is that it has reduced more than 480 million tons of carbon dioxide (CO2) from 2005 to 2009 (Brownm, Hanafi and Petsonk, 2012). So far, there still lacks of other similar emission trade schemes in comparison with the EU-ETS. Follow-ups of the EU-ETS would shed some light on the effects of emissions type and trading design on
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pollution reduction results. In addition, the studies might also pay more attention to possible political influence of the IET member states in order to design a better IET system.
We demonstrate that political power may give rise to adverse policy effects of capital tax and environmental instruments. Hence, our results can provide policy guidance to a benevolent politician who faces intervenes from interest groups or conflicting interests of the member states in an IET group. Our findings provide valuable policy implications to the policymakers, especially in the world with increasing concerns on political economy.
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