In an endogenously growing small open economy with a capital good and a consumption good, we characterize the optimal combination of an import tariff and consumption taxes under the revenue neutrality constraint. Focusing on the case in which the economy imports the capital good, we obtain two main results. First, consumption of the capital good is distorted more than the consumption good at the optimum. Second, the optimal tariff rate is positive, implying that free trade is not optimal even for a small open economy with no market failure.
- Capital good
- Endogenous growth
- Optimal tariff and tax structure
- Revenue-neutral tariff and tax reform
- Tax base
ASJC Scopus subject areas
- Economics and Econometrics