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Optimal Fiscal Policy with Redistribution

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  • Iván Werning

Abstract

I study the optimal taxation of labor and capital in a dynamic economy subject to government expenditure and technology shocks. Unlike representative-agent Ramsey models, workers are heterogenous and lump-sum taxation is not ruled out. I consider two tax scenarios: (a) linear taxation, with a lump-sum intercept and (b) nonlinear-Mirrleesian taxation. When taxes are linear, I derive a partial-equivalence result with Ramsey settings that provides a reinterpretation of such analyses. I find conditions for perfect tax smoothing of labor-income taxes and zero capital taxation. Implications that contrast with Ramsey are derived for public-debt management, for the nature of the time-inconsistency problem and for the viability of replicating complete markets without state-contingent bonds. Shifts in the distribution of skills provide a novel source for variations in tax rates. For the nonlinear tax scenario, I show that taxation based on income averages is optimal. Copyright by the President and Fellows of Harvard College and the Massachusetts Institute of Technology.

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Bibliographic Info

Article provided by MIT Press in its journal The Quarterly Journal of Economics.

Volume (Year): 122 (2007)
Issue (Month): 3 (08)
Pages: 925-967

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Handle: RePEc:tpr:qjecon:v:122:y:2007:i:3:p:925-967

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Web page: http://mitpress.mit.edu/journals/

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