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Endogenous income taxes in OLG economies

  • Zhang, Yan
  • Chen, Yan
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This paper introduces fiscal increasing returns, through endogenous labor income tax rates as in Schmitt-Grohe and Uribe (1997), into the overlapping generations model with endogenous labor and consumption in both periods of life (for example, Cazzavillan and Pintus (2004)). We show that under numerical calibrations of the parameters, in particular a reasonable share of first period consumption over the wage income, local indeterminacy can easily occur with small distortionary taxes, provided that the elasticity of capital-labor substitution is less than the share of capital in total income and the wage elasticity of the labor supply is large enough. More important is the fact that increasing the size of tax distortions enlarges the range of values of the consumption--to--wage ratio associated with multiple equilibria, because of two conflicting effects on savings that operate through wage and interest rate.

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File URL: http://mpra.ub.uni-muenchen.de/16412/1/MPRA_paper_16412.pdf
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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 16412.

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Date of creation: 22 Jul 2009
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Handle: RePEc:pra:mprapa:16412
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  1. Benhabib Jess & Farmer Roger E. A., 1994. "Indeterminacy and Increasing Returns," Journal of Economic Theory, Elsevier, vol. 63(1), pages 19-41, June.
  2. Cazzavillan, Guido & Pintus, Patrick A., 2006. "Capital externalities in OLG economies," Journal of Economic Dynamics and Control, Elsevier, vol. 30(7), pages 1215-1231, July.
  3. Guido Cazzavillan & Patrick A. Pintus, 2004. "Robustness of Multiple Equilibria in OLG Economies," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 7(2), pages 456-475, April.
  4. Lloyd-Braga, Teresa & Nourry, Carine & Venditti, Alain, 2007. "Indeterminacy in dynamic models: When Diamond meets Ramsey," Journal of Economic Theory, Elsevier, vol. 134(1), pages 513-536, May.
  5. Cazzavillan, Guido, 2001. "Indeterminacy and Endogenous Fluctuations with Arbitrarily Small Externalities," Journal of Economic Theory, Elsevier, vol. 101(1), pages 133-157, November.
  6. Gokan, Yoichi, 2006. "Dynamic effects of government expenditure in a finance constrained economy," Journal of Economic Theory, Elsevier, vol. 127(1), pages 323-333, March.
  7. Stephanie Schmitt-Grohe & Martin Uribe, 1995. "Balanced-budget rules, distortionary taxes, and aggregate instability," Finance and Economics Discussion Series 95-44, Board of Governors of the Federal Reserve System (U.S.).
  8. Reichlin, Pietro, 1986. "Equilibrium cycles in an overlapping generations economy with production," Journal of Economic Theory, Elsevier, vol. 40(1), pages 89-102, October.
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