Tax Policy and Human Capital Formation with Public Investment in Education

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Abstract

This paper studies the effects of distortionary taxes and public investment in an endogenous growth OLG model with knowledge transmission. Fiscal policy affects growth in two respects: first, work time reacts to variations of prospective tax rates and modifies knowledge formation; second, public spending enhances labour efficiency but also stimulates physical capital through increased savings. It is shown that Ramsey-optimal policies reduce savings due to high tax rates on young generations, and are not necessarily growth-improving with respect to a pure private system. Non-Ramsey policies that shift the burden on adults are always growth-improving due to crowding-in effects: the welfare of all generations is unambiguously higher with respect to a private system, and there generally exists a continuum of non-optimal tax rates under which long-run growth and welfare are higher than with the Ramsey-optimal policy.
Original languageEnglish
Pages (from-to)229-258
Number of pages30
JournalJournal of Economics
Volume86
Issue number3
Early online date2 Dec 2005
DOIs
Publication statusPublished - Dec 2005

Keywords

  • endogenous growth
  • human capital
  • overlapping generations
  • tax policy
  • public investment

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