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Integrating Expenditure and Tax Decisions: The Marginal Cost of Funds and the Marginal Benefit of Projects

  • Slemrod, Joel
  • Yitzhaki, Shlomo

This paper seeks to clarify the extent to which the rule for providing public goods ought to correct for the distortionary cost of raising funds. We argue that, in evaluating public projects, the marginal cost of funds (MCF) concept must be supplemented by a symmetrical concept, which we label the marginal benefit of public projects, or MBP, which indicates the value to individuals of the dollars spent. Each of these concepts can be decomposed into two separate components, one reflecting efficiency and the other characterizing the distributional impact of the project itself or its financing. We conclude that efficiency of the financing cannot be ignored, that distributional considerations are also relevant, and that the availability and optimality of tax instruments is critical for evaluating the appropriateness of proceeding with a public good-cum financing project. However, one can construct special cases, as in Kaplow (1996), where the simple cost-benefit criterion applies.

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Article provided by National Tax Association in its journal National Tax Journal.

Volume (Year): 54 (2001)
Issue (Month): n. 2 (June)
Pages: 189-202

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Handle: RePEc:ntj:journl:v:54:y:2001:i:n._2:p:189-202
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  1. Hettich, W. & Winer, S.L., 1993. "The Political Economy of Taxation," Papers 8, Carleton - Business Administration.
  2. Robert J. Brent, 1984. "Use of Distributional Weights in Cost-Benefit Analysis: a Survey of Schools," Public Finance Review, , vol. 12(2), pages 213-230, April.
  3. Wildasin, David E, 1984. "On Public Good Provision with Distortionary Taxation," Economic Inquiry, Western Economic Association International, vol. 22(2), pages 227-43, April.
  4. Feldstein, Martin S, 1972. "Distributional Equity and the Optimal Structure of Public Prices," American Economic Review, American Economic Association, vol. 62(1), pages 32-36, March.
  5. Atkinson, Anthony B & Stern, N H, 1974. "Pigou, Taxation and Public Goods," Review of Economic Studies, Wiley Blackwell, vol. 41(1), pages 119-28, January.
  6. Dahlby, Bev, 1998. "Progressive taxation and the social marginal cost of public funds," Journal of Public Economics, Elsevier, vol. 67(1), pages 105-122, January.
  7. Layard, Richard, 1980. "On the Use of Distributional Weights in Social Cost-Benefit Analysis," Journal of Political Economy, University of Chicago Press, vol. 88(5), pages 1041-47, October.
  8. Willig, Robert D, 1976. "Consumer's Surplus without Apology," American Economic Review, American Economic Association, vol. 66(4), pages 589-97, September.
  9. Ng, Yew-Kwang, 2000. "The Optimal Size of Public Spending and the Distortionary Cost of Taxation," National Tax Journal, National Tax Association, vol. 53(n. 2), pages 253-72, June.
  10. repec:cup:cbooks:9780521622912 is not listed on IDEAS
  11. Wilson, John Douglas, 1991. "Optimal Public Good Provision with Limited Lump-Sum Taxation," American Economic Review, American Economic Association, vol. 81(1), pages 153-66, March.
  12. Feldstein, Martin, 1997. "How Big Should Government Be?," National Tax Journal, National Tax Association, vol. 50(2), pages 197-213, June.
  13. Slemrod, Joel, 1998. "Methodological Issues in Measuring and Interpreting Taxable Income Elasticities," National Tax Journal, National Tax Association, vol. 51(n. 4), pages 773-88, December.
  14. Martin Feldstein, 1996. "How Big Should Government Be?," NBER Working Papers 5868, National Bureau of Economic Research, Inc.
  15. Sandmo, Agnar, 1998. "Redistribution and the marginal cost of public funds," Journal of Public Economics, Elsevier, vol. 70(3), pages 365-382, December.
  16. Squire, Lyn, 1980. "On the Use of Distributional Weights in Social Cost-Benefit Analysis," Journal of Political Economy, University of Chicago Press, vol. 88(5), pages 1048-49, October.
  17. Harberger, Arnold C, 1980. "Reply to Layard and Squire [On the Use of Distributional Weights in Social Cost-Benefit Analysis]," Journal of Political Economy, University of Chicago Press, vol. 88(5), pages 1050-52, October.
  18. Yitzhaki, Shlomo, 1979. "A Note on Optimal Taxation and Administrative Costs," American Economic Review, American Economic Association, vol. 69(3), pages 475-80, June.
  19. Mirrlees, James A, 1971. "An Exploration in the Theory of Optimum Income Taxation," Review of Economic Studies, Wiley Blackwell, vol. 38(114), pages 175-208, April.
  20. Joel Slemrod & Shlomo Yitzhaki, 1995. "The Costs of Taxation and the Marginal Cost of Funds," IMF Working Papers 95/83, International Monetary Fund.
  21. Feldstein, Martin, 1997. "How Big Should Government Be?," Scholarly Articles 3043427, Harvard University Department of Economics.
  22. Mayshar, Joram, 1990. "On measures of excess burden and their application," Journal of Public Economics, Elsevier, vol. 43(3), pages 263-289, December.
  23. repec:cup:cbooks:9780521021807 is not listed on IDEAS
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