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Journal Article

Endogenous Choice of Subsidy Instruments in Imperfectly Competitive Markets: A Unit Subsidy versus an Ad Valorem Subsidy

Nobuo Akai, Hikaru Ogawa and Yoshitomo Ogawa
Annals of Economics and Statistics
No. 113/114, SPECIAL ISSUE ON THE ECONOMICS OF TAXATION (June 2014), pp. 81-98
Published by: GENES on behalf of ADRES
DOI: 10.15609/annaeconstat2009.113-114.81
Stable URL: http://www.jstor.org/stable/10.15609/annaeconstat2009.113-114.81
Page Count: 18
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Endogenous Choice of Subsidy Instruments in Imperfectly Competitive Markets: A Unit Subsidy versus an Ad Valorem Subsidy
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Abstract

This paper analyzes the endogenous choice problem of subsidy instruments as production expansion (export-promotion) policies. We consider a two-region economy in which firms produce a homogeneous good and sell it in a third region. The government in each region provides a production subsidy to the domestic firm in either a unit or an ad valorem form. Our main result is that selection of a unit subsidy is the dominant strategy for each region and it is welfare superior to an ad valorem subsidy, which offers a justification for the unit subsidy assumption made in the existing literature. We explain the intuition behind this result using the properties of the best responses. JEL: H21, H25, H71, F12. / KEY WORDS: Subsidy, Unit, Ad Valorem.

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