Macroeconomics with Endogenous Markups and Optimal Taxation

Abstract

I augment a flexible price dynamic general equilibrium model with any symmetric intratemporal preferences over a variety of goods supplied under monopolistic, Bertrand, or Cournot competition to derive implications for business cycle and market inefficiencies. Endogenous markups can magnify the impact of shocks on consumption and labor supply through intertemporal substitution mechanisms, and the optimal fiscal policy requires a variable labor income subsidy and a capital income tax that converges to zero in the long run. With an endogenous number of goods and strategic interactions, entry also affects markups and the optimal fiscal policy requires also a tax on profits. I characterize equilibrium and efficient market structures and derive optimal tax rules for a variety of preferences, including a new type of general additive preferences that nest direct, indirect, implicit, and homothetic additivity.