The Laffer Curve In An Incomplete-Markets Economy
This paper examines quantitative issues related to the Laffer curve in a neoclassical growth model with endogenous labor supply and complete or incomplete financial markets where distortionary taxes on labor, capital and consumption are used to finance government consumption, lump-sum transfers and debt repayments. We show that the shape of the Laffer curve related to each type of taxation differs a lot for the two model versions, especially when public debt is adjusted to fulfill the government budget constraint. In the incomplete markets setup, a given level of the fiscal revenues can be associated to three different levels of labor or capital income taxes. This finding occurs because the tax rates change non monotonically with public debt when markets are incomplete.
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