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Redistribution and Non-Consumption Smoothing in an Open Economy

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  • Roberto Perotti

Abstract

This paper presents a model where income distribution and redistributive fiscal policy interact to affect the budget deficit and the pattern of net borrowing of a country. According to the standard representative agent paradigm, a small open economy should smooth consumption by borrowing from (lending to) the rest of the world when its income increases (declines) over time. The simple model of this paper delivers exactly the same predictions in the absence of income dispersion. When income distribution is not degenerate, however, the same model gives rise to a surprising wealth of results. In particular, poor economies with high inequality may exhibit completely counter-intuitive patterns of fiscal policy and external borrowing. The country's production path declines over time, because the more mobile agents leave the country to escape taxation; yet, the country might end up having a budget deficit and borrowing from abroad, thereby reinforcing rather than smoothing the asymmetry in consumption between the two periods. An important feature of this outcome is that it is backed by both the poor and the rich, who gain from the fiscal system at the expense of the middle class.

Suggested Citation

  • Roberto Perotti, 1996. "Redistribution and Non-Consumption Smoothing in an Open Economy," Review of Economic Studies, Oxford University Press, vol. 63(3), pages 411-433.
  • Handle: RePEc:oup:restud:v:63:y:1996:i:3:p:411-433.
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    File URL: http://hdl.handle.net/10.2307/2297889
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    Cited by:

    1. Sarra Ben Slimane & Moez Ben Tahar, 2010. "Why Is Fiscal Policy Procyclical in MENA Countries?," Working Papers 566, Economic Research Forum, revised 11 Jan 2010.
    2. Dam Kaniska & Perez-Castrillo David, 2006. "The Principal-Agent Matching Market," The B.E. Journal of Theoretical Economics, De Gruyter, vol. 2(1), pages 1-34, August.
    3. Maoz, Yishay D & Moav, Omer, 1999. "Intergenerational Mobility and the Process of Development," Economic Journal, Royal Economic Society, vol. 109(458), pages 677-697, October.
    4. Tornell, Aaron & Lane, Philip R., 1998. "Are windfalls a curse?: A non-representative agent model of the current account," Journal of International Economics, Elsevier, vol. 44(1), pages 83-112, February.
    5. Gabriela Inchauste & Bernardin Akitoby & Benedict J. Clements & Sanjeev Gupta, 2004. "The Cyclical and Long-Term Behavior of Government Expenditures in Developing Countries," IMF Working Papers 04/202, International Monetary Fund.
    6. Aysan, Ahmet Faruk, 2006. "The Role of Distribution of the Income Shares of Individuals in Tradables and Nontradables on Exchange Rate Fluctuations and Delay of Stabilizations," MPRA Paper 5485, University Library of Munich, Germany.
    7. Eden, Maya & Kraay, Aart & Qian, Rong, 2012. "Sovereign defaults and expropriations : empirical regularities," Policy Research Working Paper Series 6218, The World Bank.
    8. Ugo Panizza & Federico Sturzenegger & Jeromin Zettelmeyer, 2009. "The Economics and Law of Sovereign Debt and Default," Journal of Economic Literature, American Economic Association, vol. 47(3), pages 651-698, September.
    9. Perotti, Roberto, 1998. " The Political Economy of Fiscal Consolidations," Scandinavian Journal of Economics, Wiley Blackwell, vol. 100(1), pages 367-394, March.
    10. Arze del Granado, Javier & Gupta, Sanjeev & Hajdenberg, Alejandro, 2013. "Is Social Spending Procyclical? Evidence for Developing Countries," World Development, Elsevier, vol. 42(C), pages 16-27.
    11. Akitoby, Bernardin & Clements, Benedict & Gupta, Sanjeev & Inchauste, Gabriela, 2006. "Public spending, voracity, and Wagner's law in developing countries," European Journal of Political Economy, Elsevier, vol. 22(4), pages 908-924, December.

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