Distortionary Taxation and Optimal Public Spending on Productive Activities
Using a general-equilibrium model with endogenous factor supplies, this article investigates the provision of factor-augmenting public inputs. Such inputs are intermediate goods that affect production functions in a collective manner and give rise to increasing returns. Unlike with collective consumption goods, deviation from the first-best condition for a public input is inappropriate if taxes are set optimally. When taxes are not optimal, a second-best rule must include a feedback effect on revenue as well as the deadweight cost of taxes. Implications for benefit-cost analysis and for interpretation of estimates of the social returns to public capital are explored. Copyright 2002, Oxford University Press.
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Volume (Year): 40 (2002)
Issue (Month): 1 (January)
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