| In the first chapter, I consider the problem of optimal taxation in an environment with costly monitoring. Because imports typically enter the country at locations which are not easily monitored, it may be less costly to enforce a tariff than an income tax. Given an exogenous amount of revenue to be raised, the government must balance the price distortion of the tariff against the potential savings in enforcement costs. The main finding is that when the cost saving is sufficiently large, the optimal tax system will include both income taxes and tariffs. The tariff rate decreases with increases in per capita income or reductions in income tax enforcement costs. This fits the stylized fact that countries rely on tariffs in the early stages of development.; In the second chapter, I use a two sector trade model to study the effect of expropriation risk on foreign direct investment. Because of this threat of expropriation, perfect capital mobility is not a dynamically consistent equilibrium. The subgame perfect equilibrium features less than optimal investment, but no expropriation. However, in this environment, a tariff increases the optimal level of capital and reduces the expropriation risk. This raises the dynamically consistent level of capital and improves national income. When capital accumulation is added to the model, the optimal tariff decreases over time.; The third chapter also considers a dynamic consistency problem in a trade model. McLaren (McLaren, J., 1997, "Size, Sunk Costs, and Judge Bowker's Objection to Free Trade," American Economic Review , 87(3): 400--410.) has pointed out that when there are adjustment costs, small countries signing trade agreements with large countries may do worse than autarky because specialization puts them at a strategic disadvantage. Therefore, the small country would instead choose a trade war which gives the same utility as autarky. I show that if the government taxes the export industry, the country can do better than autarky. Furthermore, if the trade agreement is phased in over time, the small country receives even higher utility than they would if the transition to the agreement is immediate. |
