The Role of Government in Anti-Social Redistributive Activities

It is known that anti-social redistributive activities (rent seeking, tax evasion, corruption, violation of property rights, delay of socially beneficial reforms, etc) hurt the macroeconomy. But it is less known what is the role of government size as a determinant of such activities. We use data from 64 counties (both developed and developing) in 5-year periods over 1980-2000. As a measure of anti-social activities, we use the ICRG index; as a measure of government size, we use the government share in GDP; and as a measure of government efficiency, we construct an index by following the methodology of Afonso, Schuknecht and Tanzi (2003). Our regressions show that what really matters to social incentives is the relation between size and efficiency. Specifically, while a larger size of government is bad for incentives when one ignores efficiency, the results change drastically when government efficiency is also taken into account. Only when our measure of size exceeds our measure of efficiency, larger public sectors are bad for incentives. By contrast, when efficiency exceeds size, larger public sectors are not bad; actually, in the case where efficiency is measured by government performance in the policy areas of administration, stabilization and infrastructure, larger public sectors significantly improve incentives.government and behaviour of agents, collective decision-making

Should Green Governments Give Priority to Environmental Policies over Growth-Enhancing Policies?

This paper studies the properties of second-best optimal policy in a standard general equilibrium model of growth augmented with renewable natural resources. The government chooses its policy instruments (the income tax rate and the allocation of collected tax revenues between public investment and environmental policy) to solve a Ramsey-type policy problem. The main result is that, the more the citizens care about the environment, the more growth-enhancing policies the government finds it optimal to choose in the long run. This is because when citizens care about the environment, this requires tax revenues for environmental policy and can be only achieved by large tax bases and high growth. Thus, only growing economies can afford to care about the environment. This is the case even if pollution occurs as a by-product of output produced.second-best policy, natural resources, economic growth

Pollution and Resource Extraction: Do they Matter for the Dynamics of Growth?

This paper shows that whether pollution occurs as a by-product of economic activity (which is supposed to be the case in DCs), or as resource extraction (which is supposed to be the case in LDCs), matters for the dynamics of the optimal growth-environment-policy link. The context is a dynamic general equilibrium model of endogenous growth, in which private agents treat natural resources as a public good and the government chooses second-best environmental policy. We show that resource extraction can lead to indeterminacy, i.e. many different equilibrium transition paths. This can partly explain the observed persistent differences in growth among LDCs with similar fundamentals and endowments.Pollution and resource extraction, growth, dynamics, second-best policy

Economic Growth and Endogenous Fiscal Policy: In Search of a Data Consistent General Equilibrium Model

This paper searches for a general equilibrium model of optimal growth and endogenous fiscal policy with the aim of explaining the interaction between private agents and fiscal authorities in the U.S., West Germany, Japan and the U.K. over the period 1960-1996. Our search is conducted in the context of popular models with closed-form analytical solutions since this is necessary to formally test the models' theoretical restrictions. In West Germany and Japan there is evidence that the fiscal authorities act as optimizing Stackelberg leaders who are concerned about the current welfare of private agents. In contrast, the fiscal authorities in the U.S. and U.K. do not appear to act as optimizing agents; instead, they follow simple rule-of-thumb policy rules. In all countries, the tax smoothing model, according to which policymakers find it optimal not to react to the state of the economy, is rejected.Optimal fiscal policy and private agents, economic growth

The role of international public goods in tax cooperation

We provide a quantitative assessment of the welfare cost of tax competition or, equivalently, the welfare benefit of international tax policy cooperation. We use a simple multi-country general equilibrium model of a world economy, in which there are two types of cross-country spillovers: the first one is generated by international capital mobility and the second by the presence of an international public good. In the absence of international public goods, although welfare in the non-cooperative case is typically lower than in the cooperative case, the welfare difference is negligible quantitatively. Things change drastically, both quantitatively and qualitatively, once we introduce international public goods. Now, there can be big benefits from cooperation and welfare effects cease to be monotonic.Capital mobility; Tax competition; Public goods; Welfare

ECONOMIC GROWTH AND ENDOGENOUS FISCAL POLICY: IN SEARCH OF A DATA CONSISTENT GENERAL EQUILIBRIUM MODEL

This paper searches for a general equilibrium model of optimal growth and endogenous fiscal policy with the aim of explaining the interaction between private agents and fiscal authorities in the U.S., West Germany, Japan and the U.K. over the period 1960-1996. Our search is conducted in the context of popular models with closed-form analytical solutions since this is necessary to formally test the models’ theoretical restrictions. In West Germany and Japan there is evidence that the fiscal authorities act as optimizing Stackelberg leaders who are concerned about the current welfare of private agents. In contrast, the fiscal authorities in the U.S. and U.K. do not appear to act as optimizing agents; instead, they follow simple rule-of-thumb policy rules. In all countries, the tax smoothing model, according to which policymakers find it optimal not to react to the state of the economy, is rejected.

A note on testing for tax-smoothing in general equilibrium

Barro’s original partial equilibrium tax-smoothing model has generated a tremendous amount of empirical interest over the last several decades. However, to date, there has been no formal empirical testing of the more recent general equilibrium renditions of this model. Therefore, the purpose of this paper is to construct, and directly test, a general equilibrium model of optimal growth and endogenous fiscal policy in which policymakers find it optimal to keep the tax rate constant over time. In contrast to most of the evidence from partial equilibrium models, we find that data from 26 OECD economies uniformly reject the taxsmoothing hypothesis over the period 1960-1996.

Can Poductive Government Spending be the Engine of Long-Run Growth When Labor Supply is Engogenous?

We reexamine the properties of optimal fiscal policy and their implications for implementable capital accumulation. The setup is a standard endogenous growth model with public production services, augmented by elastic labor supply. We show that, when a benevolent government chooses a distorting income tax rate to finance public production services by taking into account the competitive decentralized equilibrium, public production services can no longer play their traditional role as an engine of long-run endogenous growth. This follows from a simple combination of Ramsey second-best fiscal policy and endogenous labor/leisure choices.second-best policy, elastic labor supply, endogenous growth

Choosing Club Membership under Tax Competition and Free Riding

We study the choice of club membership, when member-countries’ national governments set their tax policies non-cooperatively. Federal policy (in the form of club membership) has a higher constitutional status than national policies (in the form of income tax rates). This allows federal policy to reduce the inefficiencies arising from uncoordinated national policies. We show that equilibrium membership decreases with any factors that generate Nash-type inefficiencies; growing capital mobility is one such factor. In the particular case in which these inefficiencies take the form of tax competition for mobile tax bases and free riding on other countries’ contribution to international public goods, one can rationalize the formation of very small economic unions only. The normative result is that union enlargement requires a switch from uncoordinated to coordinated national fiscal policies.clubs, capital mobility, federalism

Environmental public good provision under robust decision making

We study public good provision in a two-country dynamic setup with environmental externalities. In this framework, we examine robust decision making under potential misspecification of the process that describes the evolution of the environmental public good. Robust policies, arising from fear of model misspecification, help to correct for the inefficiencies associated with free riding and thus increase the provision of the public good. As a result, there can be welfare gains from robust policies even when the fear of model misspecification proves to be unfounded