Abstract: Criticisms of endogenous growth models with flat rate taxes have highlighted two features
that are not substantiated by the data. These models generally imply: (1) that economic growth
must fall with the share of government expenditures in output across
countries, and (2) that one-time shifts in marginal tax rates should
instantaneously lead to similar shifts in output growth. In contrast,
we show that
allowing for heterogenous households and progressive taxes into otherwise
conventional linear growth models radically changes these predictions. In particular, economic
growth does not have to fall, and may even increase, with the share of government expenditures in
output across countries. Moreover, discrete permanent shifts in tax policy now lead to protracted
transitions between balanced growth paths. Both of these findings hold whether or not government
expenditures are thought to be productive, and better conform to available empirical evidence.
Keywords: Economic growth, progressive taxation, heterogenous households
Full paper (1914 KB PDF)
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Last update: January 16, 2002
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