Consumption Taxation in an Endogenous Growth Model with Public Capital

Abstract:     
This paper analyzes the effects of distortionary taxes on growth and welfare in an endogenous growth model with a public capital externality. The model is calibrated to the U.S. economy, and experiments are run under which the tax regime is shifted from the current mix of capital income, labor income, and consumption taxes to a fiscal policy regime with complete reliance on a consumption tax as the only source of taxation. The results indicate that there are significant cumulative welfare losses in the short run associated with transitional dynamics, and that it takes many years -- a generation -- before the benefits, or cumulative welfare gains, from a shift to the less distortionary tax regime are realized. The realized gains are about half of the gains that would be realized from a shift to non-distortionary lump-sum taxation.

Number of Pages in PDF File: 25

Keywords: Endogenous growth, consumption tax, tax policy analysis, welfare, public capital, human capital

JEL Classification: O41, E62, H54

working papers series