Abstract:

Corrective taxes are often suspected to favor local producers and to function as non-tariff barriers to trade. This paper defines favoritism in corrective taxes as deviations from taxes that would exclusively correct for the externality. When goods have multiple attributes, I show how a regulator can make corrective taxes attribute based to satisfy the taste for favoritism. Next, I construct two empirical measures of favoritism when externalities and taxes are observed. I illustrate these measures using data from the EU market for alcoholic beverages and automobiles. Finally, I estimate demand and costs in the automobile market to study the welfare implications of favoritism. I find that governments are willing to pay significant amounts to favor local producers.