VAT base broadening when the location of some consumption is mobile

If consumption can take place offshore for some items (such as banking services), the general presumption in favour of a broadly based VAT at a single rate (in the no labour-leisure choice case) breaks down. For such items, consumption taxes (VAT) are shifted backward to domestic producers while for non-mobile consumption taxes are shifted forward to consumers, and a broadly based single rate VAT will distort. Border tax propositions no longer hold, and income and sales taxes are no longer equivalent. No data are available which classifies consumption activity into mobile/non-mobile, so numerical calculations are presented for a stylized economy showing the configuration of optimal tax rates these features can yield. We provide examples of cases where a move from a narrow based tax to a lower rate equal yield broadly based tax is welfare worsening. This underscores the theme of the paper that in such cases a broadly based single rate VAT is typically not first best policy. (c) 2005 Published by Elsevier B.V.EconomicsSSCI0ARTICLE2199-2058