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Comparison between specific taxation and volume quotas in a free entry Cournot oligopoly

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Abstract

We revisit the classic discussion of the comparison between tax and quota, but in a free-entry Cournot oligopoly. We investigate a quantity ceiling regulation as a quota policy. We find that tariff-quota equivalence holds if the firms are symmetric and the number of firms is given exogenously. However the equivalence does not hold and taxes dominate quotas in the free entry market because quota can increases the number of entering firms and increases the loss caused by excessive entries.

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Notes

  1. See, for example, Itoh and Ono (1982, 1984), Hwang and Mai (1988) and Fung (1989). The regulations restricting entries of big firms or output expansions by them can play a role similar to that of the quota policy discussed in this paper. See Shimomura and Thisse (2012) for examples of such regulations. Bertrand (2002) suggest that such regulation reduces output in France. In our model, a stricter quota reduces the total output in the industry both in the short-run and long-run, which is consistent with their empirical finding. There is a vast theoretical literature on comparing the two policies where asymmetric information between the regulator and the firm exits. Weitzman (1974) is a pioneering work on the subject.

  2. Besley (1989), Delipalla and Keen (1992), Hamilton (1999), and Kitahara and Matsumura (2006) compare ad valorem and specific taxation in oligopoly models. However, they did not compare specific taxation and volume quotas in oligopoly with or without free entry.

  3. For the relationship between tax policy and excess entry theorem, see Konishi et al. (1990). The number of entering firms is excessive under Bertrand competition, too. See, for instance, Salop (1979) on for the results of excess entries. For the results of insufficient entries, see Matsumura and Okamura (2006) and Gu and Wenzel (2009).

  4. See Lahiri and Ono (1995), Etro (2006, 2007, 2008, 2011a, b), Davidson and Mukherjee (2007), Ghosh and Morita (2007), Marjit and Mukherjee (2008), Wang and Chen (2010), Ino and Matsumura (2010, 2012), and Wang and Lee (2013).

  5. See Okumura (2012) for more general tax and quota policies where the government can impose different tax rates or quotas among firms.

  6. Alternatively, we can assume that the total output \(Y\) is regulated, like the Total Allowable Catch (TAC) regulation, and \(Y/n\) is assigned to each firm after \(n\) is determined. In this alternative model, we obtain exactly the same propositions in this paper. The equivalence is obvious when \(n\) is given exogenously, and is also true in a free entry market.

  7. A large number of previous works on regulation also consider a weighted sum as a regulatory mandate. See, for example, Baron (1989). Further, Kato (2008) and Choi (2011) examine the government that prefers tax revenue to the sum of consumer and producer surplus. That is, they assume that \(\delta _{C}=\delta _{F}=1,\) \(\delta _{G}>1\) and \(\delta _{E}=0\).

  8. For the discussion of output floor regulation, see De Fraja and Iossa (1998) and Matsumura and Okamura (2013).

  9. See Matsumura and Kanda (2005, p. 37–38) for this property in detail. For the discussion on optimal entry tax in a mixed oligopoly, see Cato and Matsumura (2013). For the discussion on free entry mixed oligopolies, see also Wang and Chen (2010), Ino and Matsumura (2010), and Wang and Lee (2013).

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Acknowledgments

We are indebted to two anonymous referees for their precious and constructive comments and suggestions. Needless to say, we are responsible for any remaining errors. We gratefully acknowledge financial supports of Grant-in-Aid from the Japanese Ministry of Education, Culture, Sports, Science and Technology and Japan Society for the Promotion of Science.

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Authors and Affiliations

  1. Institute of Social Science, The University of Tokyo, Tokyo, Japan

    Toshihiro Matsumura

  2. Faculty of Economics, Hannan University, 5-4-33, Amami Higashi, Matsubara, Osaka, 580-8502, Japan

    Yasunori Okumura

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  1. Toshihiro Matsumura
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Correspondence to Yasunori Okumura.

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Matsumura, T., Okumura, Y. Comparison between specific taxation and volume quotas in a free entry Cournot oligopoly. J Econ 113, 125–132 (2014). https://doi.org/10.1007/s00712-013-0365-1

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