EUROPEAN
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W O R K I N G PA P E R S E R I E S
WORKING PAPER NO. 135
THE OPTIMAL MIX OF TAXES
ON MONEY, CONSUMPTION
AND INCOME
BY FIORELLA DE FIORE
AND PEDRO TELES
April 2002
EUROPEAN
CENTRAL
BANK
W O R K I N G PA P E R S E R I E S
WORKING PAPER NO. 135
THE OPTIMAL MIX OF TAXES
ON MONEY, CONSUMPTION
AND INCOME * †
BY FIORELLA DE FIORE
AND PEDRO TELES ‡ **
April 2002
*
We wish to thank Isabel Correia for very insightful comments. We also thank an anonymous referee and seminar participants at the Bank of Portugal, the Ente Einaudi, the
European Central Bank, and at the 1999 Society of Economic Dynamics Meeting for their comments. Remaining errors are ours.Teles gratefully aknowledges financial support by
PRAXIS XXI. De Fiore conducted part of the research while at the European University Institute and at the Ente Einaudi.This is a revised version of Working Paper 2–99 (Banco de
Portugal).
† The opinions expressed herein are those of the authors and do not necessarily represent those of the Federal Reserve Bank of Chicago, the Federal Reserve System, or the
European Central Bank.
‡ Teles is on leave from Banco de Portugal and Universidade Catolica Portuguesa.
** Corresponding author: Pedro Teles, Federal Reserve Bank of Chicago, 230 S. LaSalle St., Chicago, II 60604;Tel.: +312-3222947; Fax: +312-3222357; [email protected].
©
European Central Bank, 2001
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All rights reserved.
The views expressed in this paper are those of the authors and do not necessarily reflect those of the European Central Bank.
Reproduction for educational and non-commercial purposes is permitted provided that the source is acknowledged.
The views expressed in this paper are those of the authors and do not necessarily reflect those of the European Central Bank.
ISSN 1561-0810
Contents
Abstract
4
Non-technical summary
5
1
Introduction
6
2
The Transactions Technology Model
9
3
The Optimal Policy Mix under the Standard Transactions Technology
3.1 The Ramsey Solution
3.2 Restrictions on Tax Instruments
12
13
15
4
The Optimal Policy Mix with a Unit Elastic Transactions Technology
17
5
Why is the Friedman Rule Optimal?
20
6
Concluding Remarks
22
References
23
Appendix
A
Proposition 1
European Central Bank Working Paper Series
ECB • Working Paper No 135 • April 2002
25
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ECB • Working Paper No 135 • April 2002
9
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ECB • Working Paper No 135 • April 2002
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ECB • Working Paper No 135 • April 2002
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21
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ECB • Working Paper No 135 • April 2002
Appendix
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& f1
ECB • Working Paper No 135 • April 2002
25
European Central Bank Working Paper Series
1 “A global hazard index for the world foreign exchange markets” by V. Brousseau and F.
Scacciavillani, May 1999.
2 “What does the single monetary policy do? A SVAR benchmark for the European Central
Bank” by C. Monticelli and O. Tristani, May 1999.
3 “Fiscal policy effectiveness and neutrality results in a non-Ricardian world” by C. Detken,
May 1999.
4 “From the ERM to the euro: new evidence on economic and policy convergence among EU
countries” by I. Angeloni and L. Dedola, May 1999.
5 “Core inflation: a review of some conceptual issues” by M. Wynne, May 1999.
6 “The demand for M3 in the euro area” by G. Coenen and J.-L. Vega, September 1999.
7 “A cross-country comparison of market structures in European banking” by O. de Bandt
and E. P. Davis, September 1999.
8 “Inflation zone targeting” by A. Orphanides and V. Wieland, October 1999.
9 “Asymptotic confidence bands for the estimated autocovariance and autocorrelation
functions of vector autoregressive models” by G. Coenen, January 2000.
10 “On the effectiveness of sterilized foreign exchange intervention” by R. Fatum,
February 2000.
11 “Is the yield curve a useful information variable for the Eurosystem?” by J. M. Berk and
P. van Bergeijk, February 2000.
12 “Indicator variables for optimal policy” by L. E. O. Svensson and M. Woodford,
February 2000.
13 “Monetary policy with uncertain parameters” by U. Söderström, February 2000.
14 “Assessing nominal income rules for monetary policy with model and data uncertainty” by
G. D. Rudebusch, February 2000.
15 “The quest for prosperity without inflation” by A. Orphanides, March 2000.
16 “Estimating the implied distribution of the future short term interest rate using the
Longstaff-Schwartz model” by P. Hördahl, March 2000.
17 “Alternative measures of the NAIRU in the euro area: estimates and assessment” by S.
Fabiani and R. Mestre, March 2000.
18 “House prices and the macroeconomy in Europe: Results from a structural VAR analysis”
by M. Iacoviello, April 2000.
26
ECB • Working Paper No 135 • April 2002
19 “The euro and international capital markets” by C. Detken and P. Hartmann, April 2000.
20 “Convergence of fiscal policies in the euro area” by O. De Bandt and F. P. Mongelli,
May 2000.
21 “Firm size and monetary policy transmission: evidence from German business survey data”
by M. Ehrmann, May 2000.
22 “Regulating access to international large value payment systems” by C. Holthausen and
T. Rønde, June 2000.
23
“Escaping Nash inflation” by In-Koo Cho and T. J. Sargent, June 2000.
24 “What horizon for price stability” by F. Smets, July 2000.
25 “Caution and conservatism in the making of monetary policy” by P. Schellekens, July 2000.
26 “Which kind of transparency? On the need for clarity in monetary policy-making” by
B. Winkler, August 2000.
27 “This is what the US leading indicators lead” by M. Camacho and G. Perez-Quiros,
August 2000.
28 “Learning, uncertainty and central bank activism in an economy with strategic interactions”
by M. Ellison and N. Valla, August 2000.
29 “The sources of unemployment fluctuations: an empirical application to the Italian case” by
S. Fabiani, A. Locarno, G. Oneto and P. Sestito, September 2000.
30 “A small estimated euro area model with rational expectations and nominal rigidities” by
G. Coenen and V. Wieland, September 2000.
31 “The disappearing tax base: Is foreign direct investment eroding corporate income taxes?”
by R. Gropp and K. Kostial, September 2000.
32 “Can indeterminacy explain the short-run non-neutrality of money?” by F. De Fiore,
September 2000.
33 “The information content of M3 for future inflation” by C. Trecroci and J. L. Vega,
October 2000.
34 “Capital market development, corporate governance and the credibility of exchange rate
pegs” by O. Castrén and T. Takalo, October 2000.
35 “Systemic risk: A survey” by O. De Bandt and P. Hartmann, November 2000.
36 “Measuring core inflation in the euro area” by C. Morana, November 2000.
37 “Business fixed investment: Evidence of a financial accelerator in Europe” by P. Vermeulen,
November 2000.
ECB • Working Paper No 135 • April 2002
27
38 “The optimal inflation tax when taxes are costly to collect” by F. De Fiore,
November 2000.
39 “A money demand system for euro area M3” by C. Brand and N. Cassola,
November 2000.
40 “Financial structure and the interest rate channel of ECB monetary policy” by B. Mojon,
November 2000.
41 “Why adopt transparency? The publication of central bank forecasts” by P. M. Geraats,
January 2001.
42 “An area-wide model (AWM) for the euro area” by G. Fagan, J. Henry and R. Mestre,
January 2001.
43 “Sources of economic renewal: from the traditional firm to the knowledge firm” by
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44 “The supply and demand for eurosystem deposits – The first 18 months” by U. Bindseil
and F. Seitz, February 2001.
45 “Testing the Rank of the Hankel matrix: a statistical approach” by G. Camba-Mendez and
G. Kapetanios, February 2001.
46 “A two-factor model of the German term structure of interest rates” by N. Cassola and
J. B. Luís, February 2001.
47 “Deposit insurance and moral hazard: does the counterfactual matter?” by R. Gropp and
J. Vesala, February 2001.
48 “Financial market integration in Europe: on the effects of EMU on stock markets” by
M. Fratzscher, March 2001.
49 “Business cycle and monetary policy analysis in a structural sticky-price model of the euro
area” by M. Casares, March 2001.
50 “Employment and productivity growth in service and manufacturing sectors in France,
Germany and the US” by T. von Wachter, March 2001.
51 “The functional form of the demand for euro area M1” by L. Stracca, March 2001.
52 “Are the effects of monetary policy in the euro area greater in recessions than in booms?”
by G. Peersman and F. Smets, March 2001.
53 “An evaluation of some measures of core inflation for the euro area” by J.-L. Vega and
M. A. Wynne, April 2001.
54 “Assessment criteria for output gap estimates” by G. Camba-Méndez and D. R. Palenzuela,
April 2001.
28
ECB • Working Paper No 135 • April 2002
55 “Modelling the demand for loans to the private sector in the euro area” by A. Calza,
G. Gartner and J. Sousa, April 2001.
56 “Stabilization policy in a two country model and the role of financial frictions” by E. Faia,
April 2001.
57 “Model-based indicators of labour market rigidity” by S. Fabiani and D. RodriguezPalenzuela, April 2001.
58 “Business cycle asymmetries in stock returns: evidence from higher order moments and
conditional densities” by G. Perez-Quiros and A. Timmermann, April 2001.
59 “Uncertain potential output: implications for monetary policy” by M. Ehrmann and
F. Smets, April 2001.
60 “A multi-country trend indicator for euro area inflation: computation and properties” by
E. Angelini, J. Henry and R. Mestre, April 2001.
61 “Diffusion index-based inflation forecasts for the euro area” by E. Angelini, J. Henry and
R. Mestre, April 2001.
62 “Spectral based methods to identify common trends and common cycles” by G. C. Mendez
and G. Kapetanios, April 2001.
63 “Does money lead inflation in the euro area?” by S. N. Altimari, May 2001.
64 “Exchange rate volatility and euro area imports” by R. Anderton and F. Skudelny,
May 2001.
65 “A system approach for measuring the euro area NAIRU” by S. Fabiani and R. Mestre,
May 2001.
66 “Can short-term foreign exchange volatility be predicted by the Global Hazard Index?” by
V. Brousseau and F. Scacciavillani, June 2001.
67 “The daily market for funds in Europe: Has something changed with the EMU?” by
G. P. Quiros and H. R. Mendizabal, June 2001.
68 “The performance of forecast-based monetary policy rules under model uncertainty” by
A. Levin, V. Wieland and J. C.Williams, July 2001.
69 “The ECB monetary policy strategy and the money market” by V. Gaspar, G. Perez-Quiros
and J. Sicilia, July 2001.
70 “Central Bank forecasts of liquidity factors: Quality, publication and the control of the
overnight rate” by U. Bindseil, July 2001.
71 “Asset market linkages in crisis periods” by P. Hartmann, S. Straetmans and C. G. de Vries,
July 2001.
72 “Bank concentration and retail interest rates” by S. Corvoisier and R. Gropp, July 2001.
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73 “Interbank lending and monetary policy transmission – evidence for Germany” by
M. Ehrmann and A. Worms, July 2001.
74 “Interbank market integration under asymmetric information” by X. Freixas and
C. Holthausen, August 2001.
75 “Value at risk models in finance” by S. Manganelli and R. F. Engle, August 2001.
76 “Rating agency actions and the pricing of debt and equity of European banks: What can we
infer about private sector monitoring of bank soundness?” by R. Gropp and A. J. Richards,
August 2001.
77 “Cyclically adjusted budget balances: An alternative approach” by C. Bouthevillain, P. CourThimann, G. van den Dool, P. Hernández de Cos, G. Langenus, M. Mohr, S. Momigliano
and M. Tujula, September 2001.
78 “Investment and monetary policy in the euro area” by B. Mojon, F. Smets and
P. Vermeulen, September 2001.
79 “Does liquidity matter? Properties of a synthetic divisia monetary aggregate in the euro
area” by L. Stracca, October 2001.
80 “The microstructure of the euro money market” by P. Hartmann, M. Manna and
A. Manzanares, October 2001.
81 “What can changes in structural factors tell us about unemployment in Europe?” by
J. Morgan and A. Mourougane, October 2001.
82 “Economic forecasting: some lessons from recent research” by D. Hendry and
M. Clements, October 2001.
83 “Chi-squared tests of interval and density forecasts, and the Bank of England's fan charts”
by K. F. Wallis, November 2001.
84 “Data uncertainty and the role of money as an information variable for monetary policy” by
G. Coenen, A. Levin and V. Wieland, November 2001.
85 “Determinants of the euro real effective exchange rate: a BEER/PEER approach” by
F. Maeso-Fernandez, C. Osbat and B. Schnatz, November 2001.
86 “Rational expectations and near rational alternatives: how best to form expecations” by
M. Beeby, S. G. Hall and S. B. Henry, November 2001.
87 “Credit rationing, output gap and business cycles” by F. Boissay, November 2001.
88 “Why is it so difficult to beat the random walk forecast of exchange rates?” by L. Kilian and
M. P. Taylor, November 2001.
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ECB • Working Paper No 135 • April 2002
89 “Monetary policy and fears of financial instability” by V. Brousseau and C. Detken,
November 2001.
90 “Public pensions and growth” by S. Lambrecht, P. Michel and J.-P. Vidal, November 2001.
91 “The monetary transmission mechanism in the euro area: more evidence from VAR
analysis” by G. Peersman and F. Smets, December 2001.
92 “A VAR description of the effects of monetary policy in the individual countries of the euro
area” by B. Mojon and G. Peersman, December 2001.
93 “The monetary transmission mechanism at the euro-area level: issues and results using
structural macroeconomic models” by P. McAdam and J. Morgan, December 2001.
94 “Monetary policy transmission in the euro area: what do aggregate and national structural
models tell us?” by P. van Els, A. Locarno, J. Morgan and J.-P. Villetelle, December 2001.
95 “Some stylised facts on the euro area business cycle” by A.-M. Agresti and B. Mojon,
December 2001.
96 “The reaction of bank lending to monetary policy measures in Germany” by A. Worms,
December 2001.
97 “Asymmetries in bank lending behaviour. Austria during the 1990s” by S. Kaufmann,
December 2001.
98 “The credit channel in the Netherlands: evidence from bank balance sheets” by L. De Haan,
December 2001.
99 “Is there a bank lending channel of monetary policy in Spain?” by I. Hernando and
J. Martínez-Pagés, December 2001.
100 “Transmission of monetary policy shocks in Finland: evidence from bank level data on
loans” by J. Topi and J. Vilmunen, December 2001.
101 “Monetary policy and bank lending in France: are there asymmetries?” by C. Loupias,
F. Savignac and P. Sevestre, December 2001.
102 “The bank lending channel of monetary policy: identification and estimation using
Portuguese micro bank data” by L. Farinha and C. Robalo Marques, December 2001.
103 “Bank-specific characteristics and monetary policy transmission: the case of Italy” by
L. Gambacorta, December 2001.
104 “Is there a bank lending channel of monetary policy in Greece? Evidence from bank level
data” by S. N. Brissimis, N. C. Kamberoglou and G. T. Simigiannis, December 2001.
105 “Financial systems and the role of banks in monetary policy transmission in the euro area”
by M. Ehrmann, L. Gambacorta, J. Martínez-Pagés, P. Sevestre and A. Worms,
December 2001.
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106 “Investment, the cost of capital, and monetary policy in the nineties in France: a panel data
investigation” by J.-B. Chatelain and A. Tiomo, December 2001.
107 “The interest rate and credit channel in Belgium: an investigation with micro-level firm
data” by P. Butzen, C. Fuss and P. Vermeulen, December 2001.
108 “Credit channel and investment behaviour in Austria: a micro-econometric approach” by
M. Valderrama, December 2001.
109 “Monetary transmission in Germany: new perspectives on financial constraints and
investment spending” by U. von Kalckreuth, December 2001.
110 “Does monetary policy have asymmetric effects? A look at the investment decisions of
Italian firms” by E. Gaiotti and A. Generale, December 2001.
111 “Monetary transmission: empirical evidence from Luxembourg firm level data” by
P. Lünnemann and T. Mathä, December 2001.
112 “Firm investment and monetary transmission in the euro area” by J.-B. Chatelain,
A. Generale, I. Hernando, U. von Kalckreuth and P. Vermeulen, December 2001.
113 “Financial frictions and the monetary transmission mechanism: theory, evidence and policy
implications” by C. Bean, J. Larsen and K. Nikolov, January 2002.
114 “Monetary transmission in the euro area: where do we stand?” by I. Angeloni, A. Kashyap,
B. Mojon, D. Terlizzese, January 2002.
115 “Monetary policy rules, macroeconomic stability and inflation: a view from the trenches”
by A. Orphanides, December 2001.
116 “Rent indices for housing in West Germany 1985 to 1998” by J. Hoffmann and C. Kurz.,
January 2002.
117 “Hedonic house prices without characteristics: the case of new multiunit housing” by
O. Bover and P. Velilla, January 2002.
118 “Durable goods, price indexes and quality change: an application to automobile prices in
Italy, 1988-1998” by G. M. Tomat, January 2002.
119 “Monetary policy and the stock market in the euro area” by N. Cassola and C. Morana,
January 2002.
120 “Learning stability in economics with heterogenous agents” by S. Honkapohja and K. Mitra,
January 2002.
121 “Natural rate doubts” by A. Beyer and R. E. A. Farmer, February 2002.
122 “New technologies and productivity growth in the euro area” by F. Vijselaar and R. Albers,
February 2002.
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ECB • Working Paper No 135 • April 2002
123 “Analysing and combining multiple credit assessments of financial institutions” by E. Tabakis
and A. Vinci, February 2002.
124 “Monetary policy, expectations and commitment” by G. W. Evans and S. Honkapohja,
February 2002.
125 “Duration, volume and volatility impact of trades” by S. Manganelli, February 2002.
126 “Optimal contracts in a dynamic costly state verification model” by C. Monnet and
E. Quintin, February 2002.
127 “Performance of monetary policy with internal central bank forecasting” by S. Honkapohja
and K. Mitra, February 2002.
128 “Openness, imperfect exchange rate pass-through and monetary policy” by F. Smets and
R. Wouters, February 2002.
129 “Non-standard central bank loss functions, skewed risks, and certainty equivalence” by
A. al-Nowaihi and L. Stracca, March 2002.
130 “Harmonized indexes of consumer prices: their conceptual foundations” by E. Diewert,
March 2002.
131 “Measurement bias in the HICP: what do we know, and what do we need to know?” by
M. A. Wynne and D. Rodríguez-Palenzuela, March 2002.
132 “Inflation dynamics and dual inflation in accession countries: a “new Keynesian”
perspective” by O. Arratibel, D. Rodríguez-Palenzuela and C. Thimann, March 2002.
133 “Can confidence indicators be useful to predict short term real GDP growth?” by
A. Mourougane and M. Roma, March 2002.
134 “The cost of private transportation in the Netherlands, 1992-1999” by B. Bode and
J. Van Dalen, March 2002.
135 “The optimal mix of taxes on money, consumption and income” by F. De Fiore and P. Teles,
April 2002.
ECB • Working Paper No 135 • April 2002
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