Temporary Reduction in VAT in Response to the COVID-19 Pandemic: A Model-Theoretical Description of Corporate Decisions

By reducing the VAT rate, national governments aim to stimulate demand in the expectation that the companies lower their prices. However, the corporations can also maintain the prices and benefit from a higher net profit. Therefore, the paper models the decision-making situation of a company that is confronted with a temporary VAT cut. The authors illustrate the influencing factors on a pass-through decision in a multi-period model by the use of the net present value method. The model is a theoretical explanatory approach to demonstrate why companies not always pass-through a temporary VAT reduction to consumers. Firms can draw direct conclusions from the results and transfer the findings to their decision-making process in the event of future VAT cuts. Furthermore, the model provides advice to fiscal policymakers concerning the effectiveness of temporary VAT reductions.