Model Uncertainty and Intertemporal Tax Smoothing

Federal Reserve Bank of Kansas City Working Paper No. 12-01

46 Pages Posted: 20 Apr 2012 Last revised: 11 Mar 2013

See all articles by Yulei Luo

Yulei Luo

University of Hong Kong

Jun Nie

Federal Reserve Bank of Kansas City

Eric R. Young

University of Virginia

Date Written: August 21, 2012

Abstract

In this paper we examine how model uncertainty due to the preference for robustness (RB) affects optimal taxation and the evolution of debt in the Barro tax-smoothing model (1979). We first study how the government spending shocks are absorbed in the short run by varying taxes or through debt under RB. Furthermore, we show that introducing RB improves the model’s predictions by generating (i) the observed relative volatility of the changes in tax rates to government spending, (ii) the observed comovement between government deficits and spending, and (iii) more consistent behavior of government budget deficits in the US economy.

Keywords: Robustness, Model Uncertainty, Taxation Smoothing, Taxation Tilting

JEL Classification: D83, E21, F41, G15

Suggested Citation

Luo, Yulei and Nie, Jun and Young, Eric R., Model Uncertainty and Intertemporal Tax Smoothing (August 21, 2012). Federal Reserve Bank of Kansas City Working Paper No. 12-01. Available at SSRN: https://ssrn.com/abstract=2042731 or http://dx.doi.org/10.2139/ssrn.2042731

Yulei Luo (Contact Author)

University of Hong Kong ( email )

Pokfulam Road
Hong Kong, HK
China

Jun Nie

Federal Reserve Bank of Kansas City ( email )

1 Memorial Drive
Kansas City, MO 64198
United States
(816) 881-2255 (Phone)
(816) 881-2199 (Fax)

HOME PAGE: http://homepages.nyu.edu/~jn461/research.htm

Eric R. Young

University of Virginia ( email )

1400 University Ave
Charlottesville, VA 22903
United States

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