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Is There a Laffer Curve Between Output and Public Sector Employment?

  • Erkki Koskela
  • Matti Virén
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    This paper develops a model of the relationship between public sector employment, total output and aggregate real demand in market prices, where public employment has a positive productivity effect on private output and where public employment crowds out private employment and output via wage and tax effects. Also the valuation of government output is taken into account. While public employment affects total output and aggregate disposable income in an a priori ambiguous way, numerical simulations suggest that the relationship may be nonlinear; positive, when public sector is "small" and negative when it is "large". Using the annual data from 22 OECD countries over the period 1960 - 1996 and estimating and testing for threshold models gives support to this nonlinearity hypothesis between public employment and output.

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    Paper provided by Government Institute for Economic Research Finland (VATT) in its series Discussion Papers with number 194.

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    Date of creation: 01 Jan 1999
    Date of revision:
    Handle: RePEc:fer:dpaper:194
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    1. David Aschauer, 1988. "Is public expenditure productive?," Staff Memoranda 88-7, Federal Reserve Bank of Chicago.
    2. Riech, Utz P, 1986. "Treatment of Government Activity on the Production Account," Review of Income and Wealth, International Association for Research in Income and Wealth, vol. 32(1), pages 69-85, March.
    3. Shantayanan Devarajan & Vinaya Swaroop & Heng-fu Zou, 1996. "The composition of public expenditure and economic growth," CEMA Working Papers 77, China Economics and Management Academy, Central University of Finance and Economics.
    4. Agell, Jonas & Lindh, Thomas & Ohlsson, Henry, 1997. "Growth and the public sector: A critical review essay," European Journal of Political Economy, Elsevier, vol. 13(1), pages 33-52, February.
    5. Kormendi, Roger C, 1983. "Government Debt, Government Spending, and Private Sector Behavior," American Economic Review, American Economic Association, vol. 73(5), pages 994-1010, December.
    6. Hansen, Bruce E, 1996. "Inference When a Nuisance Parameter Is Not Identified under the Null Hypothesis," Econometrica, Econometric Society, vol. 64(2), pages 413-30, March.
    7. Fullerton, Don, 1982. "On the possibility of an inverse relationship between tax rates and government revenues," Journal of Public Economics, Elsevier, vol. 19(1), pages 3-22, October.
    8. David Aschauer, 1988. "Does public capital crowd out private capital?," Staff Memoranda 88-10, Federal Reserve Bank of Chicago.
    9. Seater, John J, 1993. "Ricardian Equivalence," Journal of Economic Literature, American Economic Association, vol. 31(1), pages 142-90, March.
    10. Grossman, Herschel I & Lucas, Robert F, 1974. "The Macro-Economic Effects of Productive Public Expenditures," The Manchester School of Economic & Social Studies, University of Manchester, vol. 42(2), pages 162-70, June.
    11. Aschauer, David Alan, 1985. "Fiscal Policy and Aggregate Demand," American Economic Review, American Economic Association, vol. 75(1), pages 117-27, March.
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