Professional Documents
Culture Documents
JSTOR is a not-for-profit service that helps scholars, researchers, and students discover, use, and build upon a wide range of content in a trusted
digital archive. We use information technology and tools to increase productivity and facilitate new forms of scholarship. For more information about
JSTOR, please contact support@jstor.org.
Your use of the JSTOR archive indicates your acceptance of the Terms & Conditions of Use, available at
http://about.jstor.org/terms
International Monetary Fund, Palgrave Macmillan Journals are collaborating with JSTOR to
digitize, preserve and extend access to Staff Papers (International Monetary Fund)
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
IMF Staff Papers
Vol. 38, No. 4 (December 1991)
? 1991 International Monetary Fund
Macroeconomic Effects
789
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
790 FRENKEL RAZIN * SYMANSKY
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 791
The VAT harmonization policies envisaged for 1992 have long been an
important component of the wide-ranging measures associated with the
move toward the single European market. The process of harmonization
started with the First Council Directive of April 1967 and has continued
through various succeeding directives. The process has involved the
adoption of VAT and the continuous convergence of rates and structures
among members of the Community.
Over the years, the Commission of the EC has drawn up various
proposals for the approximation of VAT rates and the harmonization of
its structure. Much of the discussion on the practical implementation of
the approximation of VAT rates has concerned the position and width of
bands within which various VAT rates should be placed, the products to
which a reduced rate would be applicable, and the problem of zero-rated
products.1
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Table 1. VAT Rates in the European Community
(In percent)
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 793
2 Until the end of 1992 the only permissible changes in the standard rates must
be within the 14-20 percent range, or, if the rate lies outside the range, only
changes toward the range are allowed. The final agreement on the rate structure
is planned to be reached by the end of 1991.
3Currently, the EC countries apply the destination principle to their VAT
systems; that is, they exempt exports and tax imports. But due to direct consumer
purchases (which were not reimbursed by a VAT system), the competitive base
of firms may have been eroded in high-tax countries (see Frenkel, Razin, and
Sadka (1991)).
4For a broad survey of international practice and problems related to VAT, see
Tait (1988) and Frenkel, Razin, and Sadka (1991).
5Such a proposal is still under review by the Commission. For a further
examination of the various proposals and considerations, see Cnossen and Shoup
(1987).
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
794 FRENKEL * RAZIN * SYMANSKY
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 795
( 2 Ko!
+(1
+L1- +TT,)(rk - Ok) 1 - TkO
+ - Tkl lKo
1 - Tbl + (1 - Tkl)(l + Tsl
+(1 + Tcl) 1
(1 + Tco) 1 + (1 - Tl)(1 + T'r)r
=(1 - kl) 1
L (1
(1--T10)
Two)1 + (1- Tkl)(l + 'rsl)rO
1 + (1 - TOk)(1 + T,i)ro
7Our formulation reflects the assumption that except for the final per
bolted capital cannot be consumed. However, in the final period, the ca
stock, KT, can be transformed into consumption at a rate equal to aKT, w
0 < a - 1. This assumption serves to mitigate abrupt changes in the behavi
the economy arising in the final period of the finite horizon model. Accordin
the budget constraint applicable to the final period (period T) is analogous to
one shown in equation (1), with an added term on the right-hand side equ
aKT. For a formulation of a model highlighting the interaction between in
ment, government spending policies, and international interdependence w
an infinite-horizon model, see Buiter (1987) and Frenkel and Razin (1987)
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
796 FRENKEL * RAZIN * SYMANSKY
and
1l - T,-
?wO
1 + TcO
As indicated, cxc, oL, and ao, are the effective (tax-adjusted) discount
factors governing intertemporal consumption, leisure, and investment
decisions, respectively.8 The intratemporal choice between labor supply
(leisure) and consumption of ordinary goods is governed by the prevailing
effective intratemporal tax ratio, y = (1 - 'T) /(1 + Tc).
The expressions in equation (2) show the key factors operating on the
various margins of substitution. The intratemporal tax ratio, y, shows the
conventional negative effect of labor income tax and consumption tax on
labor supply. The effective discount factor governing consumption, ac,
shows the conventional negative effect of capital income tax, Tk (through
double taxation), on saving. Likewise, the effective discount factor gov-
erning investment, cxo, shows the negative effects of capital income tax,
Tk, on investment. In addition to these conventional channels, the expres-
sions in equation (2) highlight the dynamic channels of tax policies.
Specifically, as can be seen, the effective discount factors depend on the
time path of the various taxes.9
To understand the dynamic mechanisms underlying the effective dis-
count factors, it is useful to define a benchmark case in which the double
taxation of savings is eliminated. Thus, the tax incentive rates on savings
and investment are equalized and the common rate is equal to the capital
income tax. Accordingly, these equalities imply that Tk = Tj = T, /(1 + T,).
Such a configuration of taxes yields the cash flow income tax system.10
It is noteworthy that the cash flow income tax system is equivalent to
a VAT system that is source based.1 We note that in this benchmark case
8 Obviously, with more than two periods, these discount factors are replaced
by the appropriate present value factors.
9 The expression for oL reveals an added dynamic effect, whereby a rise in the
capital income tax, Tk, induces intertemporal substitution toward future labor
supply.
0 The tax systems in many countries include incentives to saving and invest-
ment and, thereby, contain important features of the cash flow income tax
system. Such a system was advocated recently for the United States by Feldstein
(1989). For a recent comparative analysis of capital income tax systems in various
industrialized countries, see Pechman (1988).
"To verify this point, we note from equation (1) that, under a destination-
based VAT system, the tax rate, 1 - (1/(1 + tc)), applies to the value of GNP (net
of investment) minus exports, plus imports; thus in effect, imports are taxed while
export taxes are rebated. In contrast, the cash flow income tax applies only to
GNP (net of investment); thus, in effect, imports are not taxed, while export taxes
are not rebated. Hence, this system is equivalent to a source-based VAT system.
We are indebted to Sijbren Cnossen for providing us with this interpretation of
the relation among the various VAT systems. For a detailed analysis of interna-
tional taxation and tax equivalences, see also Frenkel, Razin, and Sadka (1991).
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 797
Uo = S 8 log(ut), (4)
t=0
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
798 FRENKEL * RAZIN * SYMANSKY
and investment and, thereby, the current account of the balance of pay-
ments are also governed by dynamic considerations. In the present con-
text, the model highlights the central role played by the dynamics of the
tax structure. These dynamics are reflected in the temporal and intertem-
poral substitutions captured by the various tax-adjusted discount factors.
It follows, of course, that a proper evaluation of positive and normative
implications of trends in savings, investment, and the current account
cannot be complete without an assessment of the expected paths of taxes
and the other economic variables influencing income and spending.13
The foregoing discussion focused on the various channels and margins
of substitution through which taxes affect economic behavior. Such
changes in economic behavior also influence economic welfare. The
welfare implications depend, as always, on the distorted margins of
substitution arising from the tax wedges, and on the elasticities of re-
sponse to the implied changes in incentives. The behavioral responses to
changes in the tax wedges are shown in the consumption demand, labor
supply, and investment in Appendix I. Our formulation in equation (2)
shows that in addition to their effects on the margins of substitution, the
various taxes also contain elements that resemble lump-sum taxes. These
elements are found in the taxes that fall on inelastic tax bases. For
example, the capital income and consumption tax rates, Tk and Tc, are als
applied (directly, and indirectly) to the value of initial assets, Ko an
(BP 1), which are obviously inelastic tax bases. These elements of the t
structure are nondistortive. Our simulation analysis of the welfare impli-
cations of alternative tax instruments incorporates these attributes of th
tax system.
3 In the present model, the tax structure affects the economic system by
altering the inter- and intraperiod margins of substitution as well as by alterin
wealth. An additional mechanism would recognize that in the context of a
overlapping-generations model, intertemporal offsetting shifts of tax revenue
equal present value may alter private sector behavior through changes in th
intergenerational wealth distribution. This mechanism is analyzed in Blancha
(1985) and Frenkel and Razin (1986, 1987).
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 799
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Figure 1. VAT Harmonization with Cash Flow Incom
(Percentage deviations)
Home output
-?-?-- - -Foreign output H
.............. Home labor
----- -
- . - -- Foreign labor .............. Home s
Home consumption - - -.- Foreign
"----- - Foreign consumption Hom
1.0 2
0.5 1
~t = C z~ ~ -~ r rC ---___
0.0 0
- - - - - - - - - - - - - - - -
= =.I
-0.5 -1
-1.0 -2
0 2 4 6 8 10 12 14 16 17 0 2 4 6 8
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Figure 2. VAT Harmonization with Wage Tax Adjustm
(Percentage deviations)
Home output
- .-.-.- - Foreign output H
.............. Home labor ..-.-.-- -
-.-.-.- Foreign labor .............. Home
Home consumption - . - -- Foreign
---- - Foreign consumption - Hom
5.0 2
2.5 1
0' 0
-2.5 _ _~~ * .
-1
,I I I I a , I i " .- -'- ,
-5.0 * *, *, , tr -.,r -2
0 2 4 6 8 10 12 14 16 17 0 2 4 6 8
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Figure 3. VAT Harmonization with Capital Income Tax Adjustm
(Percentage deviations)
Home output
.-. - -- Foreign output ...........
.............. Home labor .-----
.- - - .- Foreign labor Ho
Home consumption Fo
- - Foreign consumption -____
10
5 ...........
-5
-if
][v
0 2 4 6 8 10 12 14 16 17 0 2 4 6 8 1
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Figure 4. VAT Harmonization with Capital Income Tax and Saving Incent
(Percentage deviations)
Home output
- Foreign output .............. Home inves
.............. Home labor ..... ?Foreign in
-*-*-*. Foreign labor Home s
Home consumption - - - - Foreign sav
- - - - - Foreign consumption Home
5.0 10
,.,
2.5 5
-- _ _---_- - - -
_ _~~~~~~~~~~~~~?
0 0
.
-2.5 I g I I ? I I I t t -5
Ir I 111 I, I I
I i ! I II I I I i I I I -10 1 1 '
-5.0
0 2 4 6 8 10 12 14 16 17 0 2 4 6
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Figure 5. VAT Harmonization with Capital Income Tax and Investment I
(Percentage deviations)
Home output
-?--.- - -Foreign output H
.............. Home labor F
-.-.. -. - - Foreign labor H
..... ..... ..
Home consumption _ . . . . . .
F
?- -- - - Foreign consumption H
12
6
?
0
V -- N--
-6
0 *
-12
0 2 4 6 8 10 12 14 16 17 0 2 4 6
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Table 2. Effects of VAT Harmonization Under Alternative Tax
(Deviations from baseline)
C
Cash Flow Tax and
Income Labor Income Capital Income
Tax Tax Tax Incentives
Variable SR MR SR MR SR MR S
r 0 0 0 0 0 0 0
I - - 0 0 + + +
1* + + 0 0 -
L + + + + +
L* - -- - + +
Y + - + + - _
Y* - + - - + +
C - - + + - + -
C* +4 + - - + -
S - - + + - +
S* - + + - + -
B - - +- - +
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
806 FRENKEL ?RAZIN * SYMANSKY
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 807
reduced income tax is raised for both the short and the medium ru
opposite occurs in the foreign country in which income taxes
Finally, by inspecting the figures, one may infer the effects o
harmonization under alternative tax systems on the growth
domestic and foreign output and on the path of external deb
Figures 1-5 and Table 2 reveal the potential international co
interest that could arise with the implementation of VAT harmo
Under all the tax systems considered, the changes in domestic an
employment, output, consumption, saving, and investment c
on international VAT harmonization go in opposite directions
other in both the short and the medium runs.
The utility indices of economic welfare reflect the same phenomenon.
In all cases, the domestic and foreign SR utility indices (given by the
discounted sums of utilities over the entire period except for the final one)
move in opposite directions. In general, the same holds for the MR utility
indices, reflecting the future beyond the simulation period. Furthermore,
in the cases considered the VAT harmonization results in a redistribution
of welfare between generations, evidenced by the opposite direction of
changes in the SR and MR utility indices within each country. The
simulations show that the changes in the utility indices reflect, by and
large, a redistribution of world welfare, since the sum of the domestic and
foreign utility indices does not change appreciably. This result strength-
ens the suggestion that the resolution of international conflicts of interest
arising from VAT harmonization may require a compensation mecha-
nism between gainers and losers.
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
808 FRENKEL * RAZIN * SYMANSKY
with a cash flow tax system. With this system, the effective d
factors governing consumption, investment, and labor supply de
(indicated in equation (2)) become
1 + Tc 1 - Tkl 1 - T,1
^+1l+T7a-,-1
- 1 - Tk L T a -T ,
where a = 1/(1 + ro) denotes t
The tax conversion consists
permanent reduction of the
tional rise in VAT. Second, it in
tax aimed at restoring the in
evident from equation (5), with
component of the tax conver
factors governing decisions abo
the level of investment. As a re
equilibrium (involving the lev
of output rem and consumption)
the equiproportional changes i
further adjustments in income
mining whether the tax conve
tax revenue is the economy's in
sion from an income tax syst
if the level of consumption e
ment-that is, if the country ru
balance of payments.19 In th
conversion raises government
To ensure revenue neutrality
ward adjustment in the pres
temporal solvency implies th
surplus in the future period,
necessitates an upward adjustme
Opposite adjustments in curr
necessary if the economy's pr
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 809
A S*
Discount
factors
/ S SS
5s
=l/ /
0= :- /,' /
... ...........
a'L =+u..'x
. .. . . . . /
. .................... ......... '
Cl _ Growth rates
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
810 FRENKEL * RAZIN * SYMANSKY
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 811
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
812 FRENKEL * RAZIN * SYMANSKY
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Figure 7. VAT Harmonization (6 < 8*)
(Percentage deviations)
1 . _ 8 - -
Lllll~~~~~~~~~l- -~~~~~"-1~~
I ................... -.
._.
0
-.. . - me . .
0
.' C
-1 -8 I I I
-2 I I I I I I I I I I I I j I I I -16 ,,,,,,,I
0 2 4 6 8 10 12 14 16 17 0 2 4 6 8
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Figure 8. VAT Harmonization (8 > 8*)
(Percentage deviations)
1 8
...*.
"I".1illwor - - nmmomm
._* _..*_* _*_ aw W?..
.~~~~~~~ . . . . . . . _. . . _. . _. . . _._. . . . . . . . . . . . . . . . . . . . _ '
0 0
M ,,,. ,.... . ..... . . ....
-1 -8 r
-2 I ? - - ?%
-16 J ? ?
0 2 4 6 8 10 12 14 16 17 0 2 4 6 8 10
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Figure 9. VAT Harmonization (rk > rt)
(Percentage deviations)
1 8
- -
--o
0 0
-1 -8
(1 J I I I J I I J i I J ! I I I ! I
-2 -16
0 2 4 6 8 10 12 14 16 17 0 2 4 6 8 1
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Figure 10. VAT Harmoniz
(Percentage deviation
1 8 i
... . . . ......................................... . . . .. ...
0 0
?I~ _n I I I
i__
-1 -I I ! - I - I l-l -l -l It -l -8 le 9 ? I 9ll m . .
l l l | l
-2 -16 0 2 4I I
0 2 4 6 8 10 12 14 16 17 0 2 4 6 8 10
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 817
foreign consumption (gc and g*, respectively) fall, both in the sho
in the medium runs.
If, however, the configuration of saving and investment propensities is
such that the home country runs a current account surplus in the early
stage, then the dynamic effects of the VAT harmonization on these
variables are reversed. Specifically, if in the home country saving is high
or investment is low (for example, if 8 > 8*, or rk < rk), then the paths
of domestic and foreign income tax rates fall, and the world rate of
interest rises. In that case the rates of growth of domestic and foreign
consumption rise. Thus, under the present cash flow system the direction
of changes in the world rate of interest and in the growth rates of
consumption consequent on international VAT harmonization depend
exclusively on the paths of the saving-investment gap.
The lower panel of Table 3 summarizes the corresponding short- and
medium-run changes in other key economic variables. As can be seen,
international VAT harmonization crowds out domestic investment and
crowds in foreign investment independent of the current account posi-
tions. These investment responses reflect the induced changes in the
domestic and foreign tax incentives and the world rate of interest. These
changes yield two conflicting effects: the effect of the change in the world
rate of interest, and the opposite effect of the change in the tax wedges
induced by the alteration of the time paths of income tax rates.
The welfare effects of terms of trade changes depend on the magnitude
of the change in the terms of trade and on the gap between purchases and
sales of the good whose relative price has changed. In our intertemporal
context the terms of trade correspond to the world interest rate, and the
gap between purchases and sales corresponds to the current account
position. As illustrated in Table 3, in all cases the change in the terms of
trade operates in favor of the country that raises its VAT. When the
country runs a current account deficit (that is, when it borrows in the
world economy), its intertemporal terms of trade improve since the rate
of interest falls. Likewise, if the country's current account position is in
surplus, its intertemporal terms of trade also improve, since the rate of
interest rises. As Table 3 illustrates, this improvement in home country
welfare induced by the changes in the world rate of interest can be
mitigated (or even offset) by the excess-burden effects of the VAT har-
monization. Similar considerations apply to the welfare consequences of
a reduction in VAT in the foreign economy.
A comparison between the effects of the international VAT harmo-
nization on the domestic economy and the foreign economy reveals that
in the two countries the levels of foreign employment, investment, out-
put, and some other key macroeconomic indicators change in opposite
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Table 3. Effects of VAT Harmonization Under Alternative Current Ac
(Deviations from baseline)
Variable SR MR SR MR SR M
gc + +
g* + +
I
I* + + + + +
L + + +
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
Y + - - + -
y*- + - + -
C + - + - -
C* +-+ - + -
S + - - - +
S* -- + -
B - - - - _ _
U +0.2 -8.2 -0.1 -6.7 +0.3 -7
U* -0.3 +8.4 -0.3 +10.9 -0.3 +
Note: The VAT harmonizati
balance obtains through app
the short run and the mediu
while the medium run pert
by which the postharmoniz
the utility index, SR pertai
final-period utility (reflecting the entire future beyond
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
820 FRENKEL * RAZIN * SYMANSKY
One of the major developments in the world economy during the 1990s
is likely to be the move toward the single European market in 1992. The
removal of barriers to trade and factor movements, unification of mar-
kets, development of new monetary arrangements, and increased harmo-
nization of fiscal policies and tax structures are all key factors in a process
that is likely to affect the shape of the global economic system for years
to come.
One of the elements of the move toward tax harmonization in the EC
is a convergence of the various VAT systems. In this paper we have
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 821
23 For an analysis of the effects of tax policies within a model that allows for
such a commodity disaggregation, see Frenkel and Razin (1987, 1988b) and
Bovenberg (1989).
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
822 FRENKEL * RAZIN * SYMANSKY
APPENDIX I
In this Appendix we present the formal solution to the model. The maximiza-
tion of the utility functions subject to the lifetime present-value budget constraint
yields
T _1 t
u,=
_s = P d,
s - W ' (6)
P = [p(1 + ) + c (1 - P) ((1 - 'wt)W)l- ]1(1 -a) (7)
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 823
-(1 - r,)I,ti + b )
it\ T-1
-(1 - TIt)dt 1 + b -) + E ds(1 - 0)s t (1 - ks)(rk - 0)
\b rI, )2+
Equation (11) represents an implicit investment rule. The negative term is equal
to the marginal cost of investment in period t, while the positive terms are equal
to the marginal benefits consisting of the rise in output resulting from the
increased capital stock (the terms with rk and a) and the fall in future costs of
investment (the terms associated with (b /2).(I/K)2). To illustrate, in the two-
period case the investment function implied by equation (11) is
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
824 FRENKEL * RAZIN * SYMANSKY
APPENDIX II
Co + acC1
= 1
1 ++
[wlo [+ aL 2
,co Wl]Ko
+ 1 + o l(rk 0
HP H HP
B, B - (1 - Tk - )(1 + Trs- 1)rH - Bt , + (1 - Tb,)(B
FP HP
- B, ) - (1 -
As formulated
ternal debt. L
arbitrage cond
rF = (1 - Tb)rH
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 825
where
(1 + T,1)(1 - TbO)
(1 + Tco)((1 - Tbl) + (1 - Tkl)(l + T,,)ro)
(1 - Tkl)(1 - TbO)
(1 - T/o)((l - Tbl) + (1 - Tkl)(l + T,o)ro)
and
(1 - (1 - T Tw)(l - To)
aL (1 - Two)((l - Tbl) + (1 - Tkl)(l + T,l)ro) '
The formulation of the periodic budget constraint illustrates the equivalence
relation existing among the taxes on consumption income (cash flow), and inter-
national borrowing. Indeed, the real effects of any given combination of the three
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
826 FRENKEL * RAZIN * SYMANSKY
REFERENCES
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms
INTERNATIONAL VAT HARMONIZATION 827
This content downloaded from 193.226.62.221 on Wed, 29 Mar 2017 12:57:53 UTC
All use subject to http://about.jstor.org/terms