Redistribution , production inefficiency and decentralized efficiency

This paper analyzes the role of production distortion for income redistribution in an international trade model. In particular, this paper examines the role of the Stolper and Samuelson effect (Stolper and Samuelson 1941) on efficient income redistribution. It first shows that production inefficiency can be a part of a Pareto-efficient tax system when there is an asymmetric information problem between the government and individuals. Second, by using the technique that Diamond and Mirrlees (1971) originally developed, this paper shows that such production inefficiency is not only Pareto-improving for a small country but also essential to achieve world-wide Pareto-efficient allocation. Those two results suggest important policy implications for commercial policies. JEL Classification Number:H21 F13 ∗Previous versions of this paper were circulated with various titles in several places. The first part of the work is based on Naito (1996) and the second part is based on Naito (1998). I am most grateful to my adviser, Roger H. Gordon for his helpful advice. I also appreciate comments from seminar participants in Michigan, MIT, Tilburg, Syracuse, Simon-Fraser, and Stanford Institute of Theoretical Economics Summer Workshop 2000. I also appreciate anonymous referees and the editor, Robin Boadway, who provided useful comments on the previous draft. Of course, the responsibility of all remaining errors is mine. †Address: Institute of Social and Economic Research, Osaka University, Mihogaoka 6-1, Ibaraki City, Osaka, Japan, postal code 567-0047 phone:81-6-6879-8581; fax: 81-6-6878-2766. e-mail address: [email protected]