Fiscal Policy, Distortionary Taxation and Direct Crowding Out Under Monopolistic Competition

Posted: 23 Sep 1996

See all articles by Ben J. Heijdra

Ben J. Heijdra

University of Groningen - Department of Economics; CESifo (Center for Economic Studies and Ifo Institute)

Jenny E. Ligthart

Tilburg University - CentER, Department of Economics; University of Groningen - Faculty of Economics and Business; CESifo (Center for Economic Studies and Ifo Institute)

Abstract

A simple macroeconomic model with monopolistic competition on the goods market is developed which displays Keynesian features. The model is used to study the effects of a rise in public spending on national income. The model extends the literature in two directions. First, we assume that the government balances its budget by employing distortionary income taxation. Second, we allow for direct crowding out since public consumption enters private utility in a non-separable fashion. It is shown that an increase in public spending depresses national income, particularly if there is not much crowding out and firms have a lot of market power. We also derive that the short-run national income multiplier (with a fixed number of firms) exceeds the long-run multiplier (with free entry and exit of firms). The marginal cost of public funds is unambiguously smaller in the short run than in the long run, which implies a larger government sector in the short run.

JEL Classification: L12, E62

Suggested Citation

Heijdra, Ben J. and Ligthart, Jenny E., Fiscal Policy, Distortionary Taxation and Direct Crowding Out Under Monopolistic Competition. Available at SSRN: https://ssrn.com/abstract=3338

Ben J. Heijdra

University of Groningen - Department of Economics ( email )

P.O. Box 800
9700 AV Groningen
Netherlands
+31 50 363 7303 (Phone)
+31 50 363 7337 (Fax)

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

Jenny E. Ligthart (Contact Author)

Tilburg University - CentER, Department of Economics ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands
+31 13 466 8755 (Phone)
+31 13 466 4032 (Fax)

University of Groningen - Faculty of Economics and Business ( email )

Postbus 72
9700 AB Groningen
Netherlands

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

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