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The Laffer Curve in an Incomplete-Market Economy

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  • Fève, Patrick
  • Matheron, Julien
  • Sahuc, Jean-Guillaume

Abstract

This paper is a quantitative investigation into the characteristics of the Laffer curve in a neoclassical growth model with incomplete markets and heterogeneous, liquidity-constrained agents. We show that the shape of the Laffer curves related to taxes on labor, capital and consumption dramatically changes depending on which of transfers or government debt are adjusted to make the government budget constraint hold. When transfers are adjusted, the Laffer curve has the traditional shape. However, when debt is adjusted, the Laffer curve looks like a horizontal S, in which case fiscal revenues can be associated with up to three diferent levels of taxation. This finding occurs because the tax rates change non monotonically with public debt when markets are incomplete.

Suggested Citation

  • Fève, Patrick & Matheron, Julien & Sahuc, Jean-Guillaume, 2012. "The Laffer Curve in an Incomplete-Market Economy," TSE Working Papers 12-288, Toulouse School of Economics (TSE), revised Jul 2013.
    • Handle: RePEc:tse:wpaper:25754
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    2. Hans A. Holter & Dirk Krueger & Serhiy Stepanchuk, 2019. "How do tax progressivity and household heterogeneity affect Laffer curves?," Quantitative Economics, Econometric Society, vol. 10(4), pages 1317-1356, November.
    3. Christine Ma & Chung Tran, 2016. "Fiscal Space under Demographic Shift," ANU Working Papers in Economics and Econometrics 2016-642, Australian National University, College of Business and Economics, School of Economics.
    4. Tomoyuki Nakajima & Shuhei Takahashi, 2020. "The Effectiveness of Consumption Taxes and Transfers as Insurance Against Idiosyncratic Risk," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 52(2-3), pages 505-530, March.
    5. Guner, Nezih & Lopez-Daneri, Martin & Ventura, Gustavo, 2016. "Heterogeneity and Government revenues: Higher taxes at the top?," Journal of Monetary Economics, Elsevier, vol. 80(C), pages 69-85.
    6. Kotamäki Mauri, 2017. "Laffer Curves and Home Production," Nordic Tax Journal, Sciendo, vol. 2017(1), pages 59-69, January.
    7. Shuhei Takahashi & Tomoyuki Nakajima, 2016. "Consumption Taxes and Divisibility of Labor under Incomplete Markets," 2016 Meeting Papers 797, Society for Economic Dynamics.
    8. F Guedes de Oliveira & L Costa, 2015. "The VAT Laffer Curve and the Business Cycle in the EU27: An Empirical Approach," Economic Issues Journal Articles, Economic Issues, vol. 20(2), pages 29-43, September.
    9. Juraj Gazda & Viliam Kováč & Peter Tóth & Peter Drotár & Vladimír Gazda, 2017. "Tax optimization in an agent-based model of real-time spectrum secondary market," Telecommunication Systems: Modelling, Analysis, Design and Management, Springer, vol. 64(3), pages 543-558, March.

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    More about this item

    JEL classification:

    • E6 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook
    • H6 - Public Economics - - National Budget, Deficit, and Debt

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