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Tax Policy and Stability in a Model with Sector-Specific Externalities

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Author Info
Jang-Ting Guo (University of California, Riverside)
Sharon G. Harrison (Barnard College, Columbia University)

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Abstract

We show that in a two-sector real business cycle model wtih sufficiently strong investment externalities, a regressive tax policy can stabilize the economy against fluctuations driven by agents' animal spirits. By contrast, this economy with a flat or progressive tax scheme (such as that in the U.S.) is more susceptible to indeterminacy and sunspot fluctuations. In the model with an aggregate constant returns-to-scale technology or a low investment externality, we show that a regressive tax policy can destablize the economy by causing belief-driven flucutations. Moreover, depending on the size of investment externalities and the slope parameter of the tax schedule, the economy exhibits various types of endogenous fluctuations, including Hopf or saddle-node bifurcations and stochastic sunspot equilibria. (Copyright: Elsevier)

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File URL: http://dx.doi.org/10.1006/redy.2000.0105
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Publisher Info
Article provided by Elsevier for the Society for Economic Dynamics in its journal Review of Economic Dynamics.

Volume (Year): 4 (2001)
Issue (Month): 1 (January)
Pages: 75-89
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Handle: RePEc:red:issued:v:4:y:2001:i:1:p:75-89

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Related research
Keywords: tax policy; stability; sector-specific externalities; indeterminacy;

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Find related papers by JEL classification:
E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
O41 - Economic Development, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - One, Two, and Multisector Growth Models

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

  1. Benhabib Jess & Farmer Roger E. A., 1994. "Indeterminacy and Increasing Returns," Journal of Economic Theory, Elsevier, vol. 63(1), pages 19-41, June. [Downloadable!] (restricted)
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  2. Benhabib, Jess & Farmer, Roger E.A., 1999. "Indeterminacy and sunspots in macroeconomics," Handbook of Macroeconomics, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 6, pages 387-448 Elsevier. [Downloadable!] (restricted)
  3. Benhabib, Jess & Farmer, Roger E. A., 1996. "Indeterminacy and sector-specific externalities," Journal of Monetary Economics, Elsevier, vol. 37(3), pages 421-443, June. [Downloadable!] (restricted)
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  4. Stephanie Schmitt-Grohe & Martin Uribe, 1995. "Balanced-budget rules, distortionary taxes, and aggregate instability," Finance and Economics Discussion Series 95-44, Board of Governors of the Federal Reserve System (U.S.).
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  5. Roberto Perli, . "Indeterminacy, Home Production, and the Business Cycle: a Calibrated Analysis," CARESS Working Papres 97-4, University of Pennsylvania Center for Analytic Research and Economics in the Social Sciences. [Downloadable!]
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  6. Guo, Jang-Ting & Lansing, Kevin J., 1998. "Indeterminacy and Stabilization Policy," Journal of Economic Theory, Elsevier, vol. 82(2), pages 481-490, October. [Downloadable!] (restricted)
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  7. Jang-Ting Guo & Kevin Lansing, 1999. "Fiscal policy, increasing returns, and endogenous fluctuations," Working Papers in Applied Economic Theory 99-08, Federal Reserve Bank of San Francisco. [Downloadable!]
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  8. Bennett, R.L. & Farmer, R.E.A., 1999. "Indeterminacy with Non-Separable Utility," Economics Working Papers eco99/34, European University Institute.
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  9. Shea, John, 1993. "Do Supply Curves Slope Up?," The Quarterly Journal of Economics, MIT Press, vol. 108(1), pages 1-32, February. [Downloadable!] (restricted)
  10. M. Weder, . "Animal Spirits, Technology Shocks and the Business Cycle," Sonderforschungsbereich 373 1997-61, Humboldt Universitaet Berlin.
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  11. Harrison, Sharon G., 2001. "Indeterminacy in a model with sector-specific externalities," Journal of Economic Dynamics and Control, Elsevier, vol. 25(5), pages 747-764, May. [Downloadable!] (restricted)
  12. Farmer Roger E. A. & Guo Jang-Ting, 1994. "Real Business Cycles and the Animal Spirits Hypothesis," Journal of Economic Theory, Elsevier, vol. 63(1), pages 42-72, June. [Downloadable!] (restricted)
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Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Chen, Yan & Zhang, Yan, 2008. "Are Progressive Income Taxes Stabilizing? : A Reply," MPRA Paper 11460, University Library of Munich, Germany. [Downloadable!]
  2. Erkki Koskela & Mikko Puhakka, 2003. "Stabilizing Competitive Cycles with Distortionary Taxation," CESifo Working Paper Series CESifo Working Paper No. , CESifo Group Munich. [Downloadable!]
  3. Patrick A. Pintus, 2008. "Laffer traps and monetary policy," Review, Federal Reserve Bank of St. Louis, issue May, pages 165-174. [Downloadable!]
  4. Patrick Pintus, 2004. "International Capital Mobility and Aggregate Volatility: the Case of Credit-Rationed Open Economies," Computing in Economics and Finance 2004 193, Society for Computational Economics. [Downloadable!]
  5. Sergey Slobodyan, 2004. "One Sector Models, Indeterminacy, and Productive Public Spending," Computing in Economics and Finance 2004 314, Society for Computational Economics. [Downloadable!]
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