The Welfare Enhancing Effects of a Selfish Government in the Presence of Uninsurable, Idiosyncratic Risk

SFB 649 Discussion Paper No. 2006-070

27 Pages Posted: 1 Nov 2006

See all articles by Harald Uhlig

Harald Uhlig

University of Chicago - Department of Economics

R. Anton Braun

University of Tokyo - Faculty of Economics

Date Written: September 25, 2006

Abstract

This paper poses the following question: Is it possible to improve welfare by increasing taxes and throwing away the revenues? This paper demonstrates that the answer to this question is "yes." We show that there may be welfare gains from taxing capital income even when the additional capital income tax revenues are wasted or consumed by a selfish government. Previous literature has assumed that government expenditures are exogenous or productive, or allowed for redistribution of tax revenue either via lump-sum transfers, unemployment compensation or other redistributive schemes. In our model a selfish government taxes capital above a given threshold and then consumes the proceeds. This raises the before-tax real return on capital and and thereby enhances the ability of agents to self-insure when they are long-term unemployed and have low savings. Since all agents have positive probability of finding themselves in that state there are cases where all agents prefer a selfish government to no government at all.

Keywords: Capital income tax, selfish government, welfare improvement, redistribution

Suggested Citation

Uhlig, Harald and Braun, R. Anton, The Welfare Enhancing Effects of a Selfish Government in the Presence of Uninsurable, Idiosyncratic Risk (September 25, 2006). SFB 649 Discussion Paper No. 2006-070, Available at SSRN: https://ssrn.com/abstract=941129 or http://dx.doi.org/10.2139/ssrn.941129

Harald Uhlig (Contact Author)

University of Chicago - Department of Economics ( email )

1101 East 58th Street
Chicago, IL 60637
United States

R. Anton Braun

University of Tokyo - Faculty of Economics ( email )

7-3-1 Hongo, Bunkyo-ku
Tokyo 113-0033
Japan

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