Working Paper: CEPR ID: DP5796
Authors: Teresa Lloyd-Braga; Leonor Modesto; Thomas Seegmuller
Abstract: We consider a constant returns to scale, one sector economy with segmented asset markets, encompassing both the Woodford (1986) and overlapping generations models. We analyze the role of public spending, financed by (labour or capital) income and consumption taxation, on the emergence of indeterminacy. We find that what is relevant for indeterminacy is the variability of the distortion introduced by government intervention. We further discuss the results in terms of the level of the tax rate, its variability with respect to the tax base and the degree of externalities in preferences due to the existence of a public good. We show that the degree of public spending externalities affects the combinations between the tax rate and its variability under which indeterminacy occurs. Moreover, in contrast to previous results, we find that consumption taxes can lead to local indeterminacy when asset markets are segmented.
Keywords: indeterminacy; public spending; segmented asset markets; taxation
JEL Codes: E32; E63; H23
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| variability of the distortion introduced by government intervention (H19) | emergence of indeterminacy (D89) |
| public spending externalities (H59) | combinations of tax rates leading to indeterminacy (H21) |
| consumption taxes (H25) | local indeterminacy (D89) |
| tax rates + public spending externalities (H29) | stability of the economy (E60) |
| tax rate's responsiveness to the tax base (H32) | indeterminacy (D89) |