Time-consistent public policy


Klein, Paul, Krusell, Per and Rios-Rull, Jose-Victor (2008) Time-consistent public policy. Review of Economic Studies, 75, (3), 789-808. (doi:10.1111/j.1467-937X.2008.00491.x).

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Description/Abstract

In this paper we study how a benevolent government that cannot commit to future policy should trade off the costs and benefits of public expenditure. We characterize and solve for Markov-perfect equilibria of the dynamic game between successive governments. The characterization consists of an inter-temporal first-order condition (a “generalized Euler equation”) for the government, and we use it both to gain insight into the nature of the equilibrium and as a basis for computations. For a calibrated economy, we find that when the only tax base available to the government is capital income—an inelastic source of funds at any point in time—the government still refrains from taxing at confiscatory rates. We also find that when the only tax base is labour income the Markov equilibrium features less public expenditure and lower tax rates than the Ramsey equilibrium.

Item Type: Article
ISSNs: 0034-6527 (print)
1467-937X (electronic)
Subjects: H Social Sciences > HD Industries. Land use. Labor > HD28 Management. Industrial Management
H Social Sciences > HJ Public Finance
J Political Science > JC Political theory
Divisions: University Structure - Pre August 2011 > School of Social Sciences > Economics
ePrint ID: 174067
Date Deposited: 10 Feb 2011 11:13
Last Modified: 27 Mar 2014 19:21
URI: http://eprints.soton.ac.uk/id/eprint/174067

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