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Markets Versus Governments: Political Economy of Mechanisms

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  • Daron Acemoglu
  • Michael Golosov

    ()
    (Department of Economics MIT)

  • Oleg 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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Bibliographic Info

Paper provided by Society for Economic Dynamics in its series 2006 Meeting Papers with number 348.

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Date of creation: 03 Dec 2006
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Handle: RePEc:red:sed006:348

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Postal: Society for Economic Dynamics Christian Zimmermann Economic Research Federal Reserve Bank of St. Louis PO Box 442 St. Louis MO 63166-0442 USA
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Keywords: dynamic incentive problems; mechanism design; optimal taxation; political economy; revelation principle.;

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References

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  1. Daron Acemoglu, 2006. "Modeling Inefficient Institutions," NBER Working Papers 11940, National Bureau of Economic Research, Inc.
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  4. Bester, Helmut & Strausz, Roland, 2001. "Contracting with Imperfect Commitment and the Revelation Principle: The Single Agent Case," Econometrica, Econometric Society, vol. 69(4), pages 1077-98, July.
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  12. Daron Acemoglu, 2005. "Politics and Economics in Weak and Strong States," NBER Working Papers 11275, National Bureau of Economic Research, Inc.
  13. Daron Acemoglu & Simon Johnson, 2003. "Unbundling Institutions," NBER Working Papers 9934, National Bureau of Economic Research, Inc.
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  25. Harald Uhlig, 1996. "A law of large numbers for large economies (*)," Economic Theory, Springer, vol. 8(1), pages 41-50.
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Citations

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Cited by:
  1. Alexander K. Karaivanov & Fernando M. Martin, 2007. "Dynamic Optimal Insurance and Lack of Commitment," Discussion Papers dp07-22, Department of Economics, Simon Fraser University.
  2. 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.
  3. Daron Acemoglu & Mikhail Golosov & Aleh Tsyvinski, 2007. "Political Economy of Mechanisms," Levine's Bibliography 321307000000000886, UCLA Department of Economics.
  4. Marco Battaglini & Stephen Coate, 2006. "A Dynamic Theory of Public Spending, Taxation and Debt," NajEcon Working Paper Reviews 321307000000000026, www.najecon.org.
  5. Catarina Reis, 2013. "Taxation without commitment," Economic Theory, Springer, vol. 52(2), pages 565-588, March.
  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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