Taxes and Market Power : A Network Approach

Suppliers of differentiated goods make simultaneous pricing decisions, which are strategically linked due to consumer preferences and the structure of production. Because of market power, the equilibrium is inefficient. We study how a policymaker should target a budget-balanced tax-and-subsidy policy to increase welfare. A key tool is a certain basis for the goods space, determined by the network of interactions among suppliers. It consists of eigenbundles—orthogonal in the sense that a tax on any eigenbundle passes through only to its own price—with pass-through coefficients determined by associated eigenvalues. Our basis permits a simple characterization of optimal interventions. For example, a planner maximizing consumer welfare should tax eigenbundles with low pass-through and subsidize ones with high pass-through. We interpret these results in terms of the network structure of the market