Optimal Taxes on Foreign Investment in an Overlapping Generation Model

Abstract

This article uses an overlapping generations model to define the opportunity cost of capital to an economy when the capital stock is determined by individual optimizing behavior. The opportunity cost concepts developed are used to specify optimal tax or subsidy policies toward both foreign and domestic capital income. Policies are noted for situations both with and without optimal intergenerational transfer policies. Principal results are that, contrary to many previous findings, foreign and domestic source capital income should be taxed or subsidized at substantially different rates. However, if optimal intergenerational transfers are in use, both taxes (subsidies) should be zero.