Working Paper: NBER ID: w19086
Authors: Philippe Aghion; Ufuk Akcigit; Jess Fernández-Villaverde
Abstract: Chamley (1986) and Judd (1985) showed that, in a standard neoclassical growth model with capital accumulation and infinitely lived agents, either taxing or subsidizing capital cannot be optimal in the steady state. In this paper, we introduce innovation-led growth into the Chamley-Judd framework, using a Schumpeterian growth model where productivity-enhancing innovations result from profit-motivated R&D investment. Our main result is that, for a given required trend of public expenditure, a zero tax/subsidy on capital becomes suboptimal. In particular, the higher the level of public expenditure and the income elasticity of labor supply, the less should capital income be subsidized and the more it should be taxed. Not taxing capital implies that labor must be taxed at a higher rate. This in turn has a detrimental effect on labor supply and therefore on the market size for innovation. At the same time, for a given labor supply, taxing capital also reduces innovation incentives, so that for low levels of public expenditure and/or labor supply elasticity it becomes optimal to subsidize capital income.
Keywords: Capital Taxation; Labor Taxation; Innovation; Growth; Public Expenditure
JEL Codes: H20; H30; H40
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| public expenditure (H59) | capital taxation (H24) |
| capital taxation (H24) | labor supply (J20) |
| capital taxation (H24) | innovation incentives (O31) |
| public expenditure (H59) | labor supply (J20) |
| capital taxation (H24) | innovation output (O36) |
| public expenditure (H59) | innovation incentives (O31) |