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The Welfare Enhancing Effects of a Selfish Government in the Presence of Uninsuarable, Idiosyncratic Risk

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Author Info

  • R. Anton Braun

    (Faculty of Economics, University of Tokyo)

  • Harald Uhlig

    (Institute for Economic Policy, Humboldt University)

Abstract

This paper poses the following question: Is it possible to improve welfare by increasing taxes and throwing away the revenues? This paper demonstrates that the answer to this question is "yes." We show that there may be welfare gains from taxing capital income even when the additional capital income tax revenues are wasted or consumed by a selfish government. Previous literature has assumed that government expenditures are exogenous or productive, or allowed for redistribution of tax revenue either via lump-sum transfers, unemployment compensation or other redistributive schemes. In our model a selfish government taxes capital above a given threshold and then consumes the proceeds. This raises the before-tax real return on capital and and thereby enhances the ability of agents to self-insure when they are long-term unemployed and have low savings. Since all agents have positive probability of finding themselves in that state there are cases where all agents prefer a selfish government to no government at all.

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Bibliographic Info

Paper provided by Center for Advanced Research in Finance, Faculty of Economics, The University of Tokyo in its series CARF F-Series with number CARF-F-074.

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Length: 23 pages
Date of creation: Sep 2006
Date of revision:
Handle: RePEc:cfi:fseres:cf074

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  1. Kenneth L. Judd, 1982. "Redistributive Taxation in a Simple Perfect Foresight Model," Discussion Papers 572, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  2. Glomm, Gerhard & Ravikumar, B., 1994. "Public investment in infrastructure in a simple growth model," Journal of Economic Dynamics and Control, Elsevier, vol. 18(6), pages 1173-1187, November.
  3. Mikhail Golosov & Aleh Tsyvinski, 2006. "Optimal Taxation with Endogenous Insurance Markets," Levine's Bibliography 784828000000000445, UCLA Department of Economics.
  4. Aiyagari, S Rao, 1994. "Uninsured Idiosyncratic Risk and Aggregate Saving," The Quarterly Journal of Economics, MIT Press, vol. 109(3), pages 659-84, August.
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Cited by:
  1. Mathias Trabandt & Harald Uhlig, 2006. "How Far Are We From The Slippery Slope? The Laffer Curve Revisited," SFB 649 Discussion Papers SFB649DP2006-023, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany.

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