Investment, Adverse Selection and Optimal Redistributive Taxation

Anastasios Dosis 1, 2
1 ESSEC
ESSEC Business School, Economics Department
Abstract : I study a credit market with adverse selection as a signalling game. I show that in the least-costly separating equilibrium, entrepreneurs of high-quality projects may over-or under-invest compared to the social optimum to signal their type. I then examine a simple budget-balanced tax-subsidy scheme applied by the government. At a first sight, the tax-subsidy scheme seems to benefit entrepreneurs of low-quality projects and harm entrepreneurs of high-quality projects because the former are cross-subsidised by the latter. Nonetheless, this result does not necessarily hold if entrepreneurs can pledge the subsidy as collateral. In that case, taxes can improve social welfare by either decreasing or increasing aggregate investment depending on whether entrepreneurs of high-quality projects over-or under-invest in equilibrium.
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Anastasios Dosis. Investment, Adverse Selection and Optimal Redistributive Taxation. 2016. ⟨hal-01285163⟩

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