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Endogenous income taxes and indeterminacy in dynamic models: When Diamond meets Ramsey again

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  • Zhang, Yan
  • Chen, Yan

Abstract

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, consumption in both periods of life and homothetic preferences (e.g., Lloyd-Braga, Nourry and Venditti, 2007). We show that under numerical calibrations of the parameters, local indeterminacy can occur for distortionary tax rates that are empirically plausible for the U.S. economy, provided that the elasticity of capital-labor substitution and the wage elasticity of the labor supply are large enough, and the elasticity of intertemporal substitution in consumption is slightly greater than unity. These indeterminacy conditions are similar to those obtained within infinite horizon models and from this point of view, Diamond meets Ramsey again.

Suggested Citation

  • Zhang, Yan & Chen, Yan, 2009. "Endogenous income taxes and indeterminacy in dynamic models: When Diamond meets Ramsey again," MPRA Paper 17605, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:17605
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    File URL: https://mpra.ub.uni-muenchen.de/17605/1/MPRA_paper_17605.pdf
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    Cited by:

    1. Chen, Yan & Zhang, Yan, 2010. "Externalities, income taxes and indeterminacy in OLG models," MPRA Paper 22370, University Library of Munich, Germany.

    More about this item

    Keywords

    Indeterminacy; Endogenous labor income tax rate.;

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • C62 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Existence and Stability Conditions of Equilibrium

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