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Markets Versus Governments: Political Economy of Mechanisms

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  • Daron Acemoglu
  • Michael Golosov
  • Aleh Tsyvinski

Abstract

We study the optimal Mirrlees taxation problem in a dynamic economy with idiosyncratic (productivity or preference) shocks. In contrast to the standard approach, which implicitly assumes that the mechanism is operated by a benevolent planner with full commitment power, we assume that any centralized mechanism can only be operated by a self-interested ruler/government without commitment power, who can therefore misuse the resources and the information it collects. An important result of our analysis is that there will be truthful revelation along the equilibrium path, which shows that truth-telling mechanisms can be used despite the commitment problems and the different interests of the government and the citizens. Using this tool, we show that if the government is as patient as the agents, the best sustainable mechanism leads to an asymptotic allocation where the aggregate distortions arising from political economy disappear. In contrast, when the government is less patient than the citizens, there are positive aggregate distortions and positive aggregate capital taxes even asymptotically. Under some additional assumptions on preferences, these results generalize to the case when the government is benevolent but unable to commit to future tax policies. We conclude by providing a brief comparison of centralized mechanisms operated by self-interested rulers to anonymous markets.

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Paper provided by UCLA Department of Economics in its series Levine's Bibliography with number 321307000000000032.

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Date of creation: 14 May 2006
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Handle: RePEc:cla:levrem:321307000000000032

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Citations

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Cited by:
  1. Daron Acemoglu & Michael Golosov & Aleh Tsyvinski, 2007. "Political Economy of Mechanisms," Working Papers CAS_RN_2007_2, Laboratory for Macroeconomic Analysis.
  2. Marco Battaglini & Steve Coate, 2006. "A Dynamic Theory of Public Spending, Taxation and Debt," Levine's Bibliography 122247000000001094, UCLA Department of Economics.
  3. Reis, Catarina, 2006. "Taxation without Commitment," MPRA Paper 2071, University Library of Munich, Germany.
  4. Alexander K. Karaivanov & Fernando M. Martin, 2011. "Dynamic optimal insurance and lack of commitment," Working Papers 2011-029, Federal Reserve Bank of St. Louis.
  5. Christopher Sleet & Sevin Yeltekin, 2006. "Credibility and endogenous societal discounting," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 9(3), pages 410-437, July.
  6. Marco Battaglini & Stephen Coate, 2008. "Fiscal Policy over the Real Business Cycle: A Positive Theory," NBER Working Papers 14047, National Bureau of Economic Research, Inc.

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