Income effects and indeterminacy in a calibrated one-sector growth model

This note analyzes how the indeterminacy of competitive equilibrium in one-sector growth models depends on the magnitude of the households' income effect on the demand for leisure. Since I am interested in quantitatively characterizing regions of indeterminacy, I use the Jaimovich and Rebelo [N. Jaimovich, S. Rebelo, Can news about the future drive the business cycle? Mimeo, Northwestern University, 2007] preferences that span a wide range of income effect values. I find that indeterminacy can occur for levels of aggregate-returns-to-scale that are well within recent empirical estimates. For these regions of indeterminacy, the model, when driven solely by sunspot shocks, generates second-moment properties that are consistent with the U.S. data at the business cycle frequency.     

Tax Rate Variability and Public Spending as Sources of Indeterminacy

We consider a constant returns to scale, one sector economy with segmented asset markets of the Woodford type. We analyze the role of public spending, financed by labor income and consumption taxation, on the emergence of indeterminacy. We find that what is relevant for indeterminacy is the variability of the distortion introduced by government intervention. We show that the degree of public spending externalities in preferences affects the combinations between the tax rate and its variability under which indeterminacy occurs. Moreover, we find that consumption taxes can lead to local indeterminacy when asset markets are segmented.     

When redistribution makes personalized pricing of externalities useless

We consider a standard optimal taxation framework in which consumers' preferences are separable in consumption and labor and identical over consumption, but are affected by consumption externalities. For every nonlinear, income-dependent pricing of goods there is a linear pricing scheme, combined with an adjusted income tax schedule, that leaves all consumers equally well-off and weakly increases the government's budget. The result depends on whether a linear pricing scheme exists that keeps the aggregate amount of consumption at its initial level observed under nonlinear pricing. We provide sufficient conditions for the assumption to hold. If adjusting the income tax rate is not available, personalized prices for an externality can enhance social welfare if they are redistributive, that is, favor consumers with a larger marginal social value of income.     

A Case Against Zero Capital-Income Taxation

This paper develops a dynamic general equilibrium model to investigate the optimal level of capital income taxation in light of stochastic endogenous economic growth. Although endogenous human capital is incorporated into our model, we restrict our investigation to the issue of optimal physical capital income tax; and the labor supply is also endogenously determined. This paper proves that the optimal capital income tax should be zero provided exogenous government expenditure on production; however, capital income should be taxed if we consider endogenous government consumption.     

Growth promoting policies,distribution, and the balance of payments

This paper studies the consequences of growth promoting policies for income distribution, aggregate savings, and the balance of payments in a small open economy. We focus on the case of a reduction in capital income taxation. Then the traditional OLG model, which emphasizes the inter-generational distribution, predicts that both investment and consumption are boosted. It is obvious then that the trade balance deteriorates. However, we show that this result is no longer robust if one allows for heterogeneity of agents within each generation. Then the intra-generational distribution effect, which implies a negative relationship between the share of capital income and aggregate consumption, may cause consumption to decline, and the trade balance to improve. This effect concurs with the classical, or post-Keynesian view on the relationship between distribution and savings. This post-Keynesian effect is, however, important for the short run only; the long-term result for the trade balance is not essentially changed by allowing for intra-generational heterogeneity.     

Income Taxation Rules and Stability of a Small Open Economy

This paper examines the stability of a small open economy under alternative income taxation rules. Using a one-sector real business cycle model with external increasing returns, we show that if the income tax schedule is linear, the small open economy will not generate equilibrium indeterminacy, but it exhibits a diverging behavior under certain conditions. In this case, an appropriate choice of nonlinear tax on the factor income may recover the saddle-point stability. We also reveal that if the taxation on the interest income on financial assets is regressive, then the small open economy may exhibit equilibrium indeterminacy. In this situation, a progressive tax rule on the interest income can contribute to eliminating sunspot-driven fluctuations.     

Education,redistributive taxation and confidence

We consider redistributional taxation between people with and without human capital if education is endogenous and if individuals differ in their perceptions about own ability. Those who see their ability as low like redistributive taxation because of the transfers it generates. Those who see their ability as high may also like redistributive taxation because it stops other people receiving education and increases the quasi rents on their own human capital. It is surprising that this rather indirect effect can overcompensate them for the income loss from taxation and make the highly confident want higher taxes than the less confident do. The results, however, turn out to be in line with empirical evidence on the desired amount of redistribution among young individuals.     

Public goods provision and redistributive taxation

This paper studies the relationship between redistributive taxation and tax-deductible charitable contributions. Redistribution has two opposite effects on voluntary giving. The price of charitable giving decreases with the degree of redistribution, and this has a positive effect on the total amount of giving (substitution effect). However, redistribution leads to lower consumption for the contributors and therefore has a negative effect on contributions to the charity (income effect). The theoretical model developed in this paper demonstrates that, under a general class of utility functions, the substitution effect dominates the income effect. Hence, charitable giving increases with the tax rate. In purely egalitarian societies, the public good is provided efficiently and the total welfare is maximized independent of the ex-ante income inequality. However, the positive impact of taxation on charitable giving and welfare may disappear if individuals generate their income levels in anticipation of taxation and redistribution does not take into account the cost of effort.     

Give and Take Between Households and the State: Development and Application of A Benefaction–Contribution Ratio

This study defines a “Benefaction–Contribution Ratio” (BCR), describing the extent to which households are net beneficiaries of or contributors to the economy in relation to income and consumption. Such issues are central to assessment and targeting of policies such as social welfare and taxation. We apply the ratio to 21,144 South African households. South Africa employs various taxation‐funded social grants and subsidized services. A central question is how such transfers affect real household income and consumption. We find that the constitution of social transfers as a function of tax adjusted earned income significantly augments household buying power. Furthermore, we hypothesize and find a negative curvilinear shape which has implications for design of taxation and welfare. This constitution and distribution of this ratio may be useful for international benchmarking and household planning, and as an economic predictor of outcomes such as job seeking, entrepreneurial behavior, family planning, migration, and tax evasion.     

Short-run and long-run effects of capital taxation on innovation and economic growth

In this study, we examine the effects of capital taxation on innovation and economic growth in an R&D-based growth model. We find that capital taxation has drastically different effects in the short run and in the long run. An increase in the capital income tax rate has both a consumption effect and a tax-shifting effect on the equilibrium growth rates of technology and output. In the short run, the consumption effect dominates the tax-shifting effect causing an initial negative effect of capital taxation on the equilibrium growth rates. However, in the long run, the tax-shifting effect becomes the dominant force yielding an overall positive effect of capital taxation on steady-state economic growth. These contrasting effects of capital taxation at different time horizons may provide a theoretical explanation for the mixed evidence in the empirical literature on capital taxation and economic growth.     

On indeterminacy and growth under progressive taxation and productive government spending

We examine the theoretical interrelations between equilibrium (in)determinacy and economic growth in a one‐sector representative‐agent model of endogenous growth with progressive taxation of income and productive flow of public spending. We analytically show that, if the demand‐side effect of government purchases is weaker, the economy exhibits an indeterminate balanced‐growth equilibrium and belief‐driven growth fluctuations when the tax schedule is sufficiently progressive or regressive. If the supply‐side effect of public expenditures is weaker, indeterminacy and sunspots arise under progressive income taxation. In sharp contrast to traditional Keynesian‐type stabilization policies, our analysis finds that raising the tax progressivity may destabilize an endogenously growing economy with fluctuations driven by agents’ self‐fulfilling expectations.     

Corruption in a neoclassical growth model with a non-convex production function

In this article, we analyze the bureaucrats’ corruption problem in a simple neoclassical growth model with a non-convex production function. In this model, we consider direct relations between product (income) taxation and corruption, and between corruption and public goods provision. As the main result, we show that the optimal consumption growth path in this economy is higher in a non-corrupt environment than in a corrupt environment and the higher the proportion of corrupt bureaucrats, the higher the cost of corruption to society.     

Efficient taxation, wage bargaining and policy coordination

This paper is related to the literature on optimal nonlinear taxation under right-to-manage wage formation, and we assume that the fall-back profit facing firms during wage bargaining depends on the profit they can obtain if moving production abroad. The purpose is to study how policy coordination among countries can be used to increase the welfare level in comparison with an uncoordinated equilibrium. We consider coordinated policy reforms with respect to the marginal taxation of labor income, the unemployment benefit and the provision of a public good. The results show that policy coordination that leads to fewer hours of work per employee and/or a reduction of the unemployment benefit will increase welfare compared to the uncoordinated equilibrium.     

Optimal age‐dependent income taxation in a dynamic extensive model: The case for negative participation tax on young people

We consider optimal age‐dependent income taxation in a dynamic model where the labor‐leisure choice is the extensive margin, each household faces idiosyncratic shocks to labor productivity and a pecuniary cost to work, and there is no insurance market against the shocks. We show that the well‐known property of the optimal participation tax rate in the static model continues to hold in our dynamic economy, that is, the participation tax rates for some income groups with low consumption are likely negative. In dynamic models, the optimal participation tax rate depends on age and on labor income. Our numerical simulations suggest that a negative participation tax should be restricted to young households.     

Optimal Indirect and Capital Taxation

We consider an environment in which agents' skills are private information and follow arbitrary stochastic processes. We prove that it is typically Pareto optimal for an individual's marginal benefit of investing in capital to exceed his marginal cost of doing so. This wedge is consistent with a positive tax on capital income. We also prove that it is Pareto optimal for the marginal rate of substitution between any two consumption goods to equal the marginal rate of transformation. This lack of a wedge is consistent with uniform taxation of consumption goods within a period.     

Dynamic Optimal Taxation with Private Information

We study dynamic optimal taxation in a class of economies with private information. Optimal allocations in these environments are complicated and history-dependent. Yet, we show that they can be implemented as competitive equilibria in market economies supplemented with simple tax systems. The market structure in these economies is similar to that in Bewley (1986) ; agents supply labour and trade risk-free claims to future consumption, subject to a budget constraint and a debt limit. Optimal taxes are conditioned only on two observable characteristics—an agent's accumulated stock of claims, or wealth, and her current labour income. We show that optimal taxes are generally non-linear and non-separable in these variables and relate the structure of marginal wealth and income taxation to the properties of agent preferences.     

Budget Balancedness and Optimal Income Taxation

We make two contributions to the theory of optimal income taxation. First, assuming conditions sufficient for existence of a Pareto optimal income tax and public goods mechanism, we show that if agents' preferences satisfy an extended notion of single crossing called capacity constrained single crossing, then there exists a Pareto optimal income tax and public goods mechanism that is budget balancing. Second, we show that, even without capacity constrained single crossing, existence of a budget balancing Pareto optimal income tax and public goods mechanism is guaranteed if the set of agent types contains no atoms.     

Optimal Tax Policy, Market Imperfections, and Environmental Externalities in a Dynamic Optimizing Macro Model

This paper develops a dynamic real business cycle model that highlights pollution externalities (on welfare and production) and market imperfections and uses it to determine the socially optimal tax policy that encompasses labor income, capital income, and emission taxes. We show that the optimal tax on capital and labor income only addresses the production inefficiency (and is time-invariant), while the tax on the environmental externalities affects both the production inefficiency and the environmental spillovers (and is time-varying). More interestingly, the socially optimal emission tax will be characterized by a Keynesian-like stabilizer that is designed to mitigate business cycle fluctuations, i.e., that will stimulate the economy with a lower emission tax during recessions. In a positive analysis, we show that the beneficial effects arising from pollution taxation will become larger the greater is the degree of the firms' monopoly power. In addition, a triple dividend in terms of improving environmental quality and increasing employment and firms' profit can be simultaneously realized if the environmental production externality is more significant and if the elasticity of intertemporal substitution in consumption is relatively small.     

Optimal labor income taxation in a two-sector dynamic general equilibrium model

This paper presents a new approach to the two-sector optimal taxation problem. We derive the optimal labor income tax rate which depends on factor intensity across sectors. It is the labor intensity that determines the initial wage rate, and therefore the optimal labor tax rate. We show that an increase in the initial relative price of consumption goods decreases the optimal tax rate on labor income in the case that the consumption goods sector is capital-intensive while it increases the optimal tax rate on labor income in the case that the investment goods sector is capital-intensive.