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Can Consumption Taxes Stabilize the Economy in the Presence of Consumption Externalities?

In: Sunspots and Non-Linear Dynamics

Author

Listed:
  • Teresa Lloyd-Braga

    (UCP, Catolica Lisbon School of Business and Economics, Palma de Cima)

  • Leonor Modesto

    (UCP, Catolica Lisbon School of Business and Economics and IZA)

Abstract

We discuss the stabilization role of consumption taxes under a balanced-budget rule in the presence of consumption externalities of the “keeping up with the Joneses” type. We consider a finance constrained economy and depart from a situation where sufficiently strong externalities make the steady state indeterminate, if government intervention is absent. Sufficiently procyclical consumption tax rates are able to ensure local saddle path stability. However, this procyclicality leads to the appearance of another steady state with lower levels of output which is a source or indeterminate. Therefore, government intervention with stabilization purposes may not be successful.

Suggested Citation

  • Teresa Lloyd-Braga & Leonor Modesto, 2017. "Can Consumption Taxes Stabilize the Economy in the Presence of Consumption Externalities?," Studies in Economic Theory, in: Kazuo Nishimura & Alain Venditti & Nicholas C. Yannelis (ed.), Sunspots and Non-Linear Dynamics, chapter 0, pages 259-278, Springer.
    • Handle: RePEc:spr:steccp:978-3-319-44076-7_11
    DOI: 10.1007/978-3-319-44076-7_11
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    Cited by:

    1. Nicolas End, 2021. "The Prince and Me A model of Fiscal Credibility," Working Papers halshs-03222115, HAL.
    2. Francesco Carli & Leonor Modesto, 2022. "Sovereign debt, fiscal policy, and macroeconomic instability," Journal of Public Economic Theory, Association for Public Economic Theory, vol. 24(6), pages 1386-1412, December.

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