Tax Evasion and Optimal Government Interventions

Tax Evasion and Optimal Government Interventions

25/07

Salim Ergene

English

 July 2025

This paper studies optimal government interventions to recapitalize corporations under tight financial conditions. The policymaker can finance the recapitalization program through income taxes and an inflation tax on money holdings. However, households operating the labor-intensive production technology can evade their tax obligations. Growing tax evasion raises the tendency to monetize interventions. Partially monetizing recapitalization yields welfare gains, as an inflation tax reallocates resources from less to more productive sectors. However, financing unproductive government spending through seigniorage revenue becomes an inferior policy, as contemporaneous inflation costs outweigh the expansionary effects of fiscal policy. Pecuniary externalities generate scope for macroprudential policies, mitigating the effects of financial shocks.

Tax evasion, Recapitalization, Currency mismatch, Depreciation

E12; E41; E26; E58