This paper studies optimal fiscal policy in a small open economy model under incomplete financial markets, where interest rates, government spending and productivity are stochastic and taxes are distortionary. The contributions of the paper are twofold. First, I solve the Ramsey problem and characterize the properties of the optimal fiscal policy. Second, I show that the optimal fiscal policy consists in smoothing tax distortions over time. The income tax rate, and the public debt are very persistent irrespective of the degree of autocorrelation of the shocks generating aggregate fluctuations. The government finances an increase in government spending or a decrease in the tax base partly by increasing debt and partly by increasing the tax rate.
Download Info
To download:
If you experience problems downloading a file, check if you have the
proper application to
view it first. Information about this may be contained
in the File-Format links below. In case of further problems read
the IDEAS help
file. Note that these files are not on the IDEAS
site. Please be patient as the files may be large.
Publisher Info
Paper provided by Banco de México in its series Working Papers with number
2006-09.
Find related papers by JEL classification: E60 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - General F34 - International Economics - - International Finance - - - International Lending and Debt Problems F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
This paper has been announced in the following NEP Reports: