MILITARY SPENDING AND THE GROWTH‐MAXIMIZING ALLOCATION OF PUBLIC CAPITAL: A CROSS‐COUNTRY EMPIRICAL ANALYSIS

In this paper we present an endogenous growth model to analyze the growth maximizing allocation of public investment among N different types of public capital. Using this general model of public capital formation, we analyze the stability of the long‐run equilibrium and we derive the growth‐maximizing values of the shares of public investment allocated to the different types of public capital, as well as the growth‐maximizing tax rate (amount of total public investment as a share of GDP). Then we proceed with an empirical investigation of the theoretical implication of the model that both the effects of the shares of public investment and the tax rate on the long‐run growth rate are non‐linear, following an inverse U‐shaped pattern. Using data of public investment in infrastructure and military capital formation, we derive empirical estimations that confirm the theoretical implications of the model. (JEL E62, H56, O40).     

IS THE BUDGET DEFICIT “TOO LARGE?”

Yes. Specifically, we find that recent spending and taxing policies of the government–if continued–violate the government's intertemporal budget constraint. As a result, government spending must be reduced and/or tax revenues must be increased. These conclusions are based on tests of whether government spending and revenue are cointegrated. In addition to examining real spending and revenue, we also normalize these variables by real GNP and population. For a growing economy, these normalized measures are perhaps more pertinent. We also test and find support for the hypothesis that deficits have become a problem only in recent years.     

THE ROLE OF NATIONAL DEBTS IN THE DETERMINATION OF THE YEN‐DOLLAR EXCHANGE RATE

An intertemporal optimization model is developed to examine the determinants of the long‐run nominal yen‐dollar exchange rate in the presence of national debts. The model is tested empirically using data from Japan and the United States. The proposed theoretical specification is well supported by the data and shows that relative national debts as well as monetary and financial factors may play a significant role in the determination of the long‐run nominal exchange rate between the yen and the dollar. (JEL F31, G11, G15)     

WHY DO GOVERNMENTS END UP WITH DEBT? SHORT‐RUN EFFECTS MATTER

This paper reconsiders the impact of public debt in an economy with heterogeneous households and incomplete markets to emphasize the short‐run effects of an increase in public debt. As compared to models that rest on steady‐state analysis, we show that the welfare gains of a public debt increase are substantially higher when transitional dynamics are accounted for. The additional debt issue allows for a temporary reduction in the income tax rate, which stimulates labor supply and generates an overshooting of the interest rate. The short‐run gains create a temptation to deviate toward higher levels of debt. Debt increases continue to generate welfare gains even when debt is considerably higher than its long‐run optimal level. (JEL E60, H60)     

ON THE DESIRABILITY OF TAX COORDINATION WHEN COUNTRIES COMPETE IN TAXES AND INFRASTRUCTURE

This article contains two distinct messages. First, when jurisdictions compete in two independent strategic variables, the decision to coordinate on one variable (a tax rate) induces a carry‐over effect on the unconstrained instrument (infrastructure expenditures). Consequently, classical results of the tax coordination literature may be qualified. A second message is that the relative flexibility of the strategic instruments, which may depend on the time horizon of the decision making, does matter. In particular, tax coordination is more likely to be detrimental (in terms of revenue and/or welfare) when countries can compete simultaneously in taxes and infrastructure, rather than sequentially. The reason is that simultaneity eliminates strategic effects between tax and nontax instruments. (JEL H21, H87, H73, F21, C72)     

THE IMPACT OF FISCAL POLICY ON PROFITS

This paper investigates the impact of fiscal policy on profits using panel data for 18 high‐income OECD countries during the period 1975–1999. We estimate a profit equation allowing a consistent treatment of the government budget constraint, and we try to disentangle the effects of different spending and taxation items. As far as public spending is concerned, our results strongly suggest that capital expenditures are associated with higher profits, while expenditures on goods and services and in particular on wages and salaries deteriorate profits. In general, “productive” expenditures seem to increase profits while the effect of “unproductive” expenditures is insignificant. Transport and communication expenditures seem to have a positive impact on profits. On the revenue side, we find that both direct and indirect taxation has a negative impact on profits. (JEL E62, H32, H54)     

HAS FEDERAL BUDGET DEFICIT POLICY CHANGED IN RECENT YEARS?

This paper applies new tests for parameter instability in cointegrated regression models to the U.S. Federal government's intertemporal budget constraint in order to detect whether there has been a regime change in spending and taxing policies. Some researchers have argued that fiscal policy under Presidents Reagan and Bush moved the U.S. deficit onto an unsustainable path. My results suggest that government deficit policy in the 1980s was not significantly different from policies during the three earlier decades. However, a diverging debt-GNP ratio suggests that the government will run into problems marketing its debt if current policy continues.     

HOW DOES GLOBALIZATION AFFECT THE IMPLICIT TAX RATES ON LABOR INCOME,CAPITAL INCOME,AND CONSUMPTION IN THE EUROPEAN UNION?

This article analyzes the effects of globalization on implicit tax rates (ITRs) on labor income, capital income, and consumption in the EU15 and Central and Eastern European New Member States (CEE NMS). We find supportive evidence for an increase in the ITR on labor income in the EU15, but no effect on the ITR on capital income. There is evidence of convergence in terms of the ITR on consumption, as countries with higher than average ITR on consumption respond to globalization by decreasing their tax rates. There are important differences among the welfare regimes within the EU15. Social‐democratic countries have decreased the tax burden on capital, but increased that on labor due to globalization. Globalization exerts a pressure to increase taxes on labor income in the conservative and liberal regimes as well. Taxes on consumption decrease in response to globalization in the conservative and social‐democratic regimes. In the CEE NMS, there is no effect of globalization on the ITR on labor and capital income, but we find a negative impact on the ITR on consumption in the CEE NMS with higher than average ITR on consumption. (JEL H23, H24, H25, F19, F21)     

PITFALLS IN TESTING FOR COINTEGRATION BETWEEN INEQUALITY AND THE REAL INCOME

Frank (2009) constructed a comprehensive panel of state‐level income inequality measures using individual tax filing data from the Internal Revenue Service. Employing an array of cointegration exercises for the data, he reported a positive long‐run relationship between income inequality and the real income per capita in the United States. This article questions the validity of his findings. First, we suggest a misspecification problem in his approach regarding the order of integration in the inequality index, which shows evidence of nonstationarity only for the post‐1980 data. Second, we demonstrate that his findings are not reliable because the panel cointegration test he used requires cross‐section independence, which is inappropriate for the U.S. state‐level data. Employing panel tests that allow cross‐section dependence, we find no evidence of cointegration between inequality and the real income. (JEL D31, O40)     

Threshold Effects in the U.S. Budget Deficit

We contribute to the debate on whether the U.S. large federal budget deficits are sustainable in the long run. We model the U.S. government deficit per capita as a threshold autoregressive process. We find evidence that the U.S. budget deficit is sustainable in the long run and that economic policy makers will only intervene to reduce per capita deficit when it reaches a certain threshold. (JEL C32 , E62 )     

DO STATE EXCISE TAXES REDUCE ALCOHOL‐RELATED FATAL MOTOR VEHICLE CRASHES?

We study the effect of alcohol excise taxes on alcohol‐related fatal traffic crashes by examining two large increases in excise taxes in Illinois that occurred in 1999 and in 2009. Using the synthetic control method, we do not find evidence that the tax increases led to a long‐term reduction in fatal alcohol‐related motor vehicle crashes following either tax increase. These results are robust across several specifications and pass sensitivity tests. However, we find evidence that following the 2009 increase Illinois counties that do not share a border with another state experienced a temporary drop in alcohol‐related traffic fatalities. (JEL H71, H75, 118)     

EFFICIENT TAX REPORTING: THE EFFECTS OF TAXPAYER LIABILITY INFORMATION SERVICES

The complexity of the individual income tax system can give rise to both under‐ and overreporting of liability, thus creating a wedge between taxpayer perceptions of the price of public services and their actual cost, and potentially leading to budget misallocations and associated efficiency losses. This study uses theory and experiments to evaluate the effectiveness of taxpayer service programs that endeavor to resolve uncertainty over tax liability. To do so, we induce uncertainty over tax liability and investigate the effects of both service accuracy and reliability. We find participants are less likely to file when tax liability is uncertain but the provision of information offsets this effect; furthermore, it appears that simply providing a service, even one that imperfectly reveals liability, increases the propensity to file and the accuracy of the filing. When a service that promises to resolve uncertainty completely is requested but not delivered, the result is underreporting even more severe than in a setting where no service is available. (JEL H2, H26, C91)     

THE OPTIMAL TAXATION OF ASSET INCOME WHEN GOVERNMENT CONSUMPTION IS ENDOGENOUS: THEORY,ESTIMATION AND WELFARE

This paper derives the Ramsey optimal fiscal policy for taxing asset income in a model where government expenditure is a function of net output or the inputs that produce it. Extending work by Kenneth L. Judd, I demonstrate that the canonical result that the optimal tax on capital income is zero in the medium to long term is a special case of a more general model. Employing a vector error correction model to estimate the relationship between government consumption and net output or the factor inputs that generate it for the United States between 1948Q1 and 2015Q4, I demonstrate that this special case is empirically implausible, and show how a cointegrating vector can be used to determine the optimal tax schedule. I simulate a version of the model using the empirical estimates to measure the welfare implications of changing the tax rate on asset income, and contrast these results with those generated in a version of the model where government consumption is purely exogenous. The shifting pattern of welfare measurements confirms the theoretical results. I calculate that the prevailing effective tax rate on net asset income in the United States between 1970 and 2014 averaged 0.449. Hence abolishing the tax completely does generate welfare improvements, though only by the equivalent of between 1.103% and 1.616% permanent increase in consumption—well under half the implied welfare benefit when the endogeneity of the government consumption is ignored. The maximum welfare improvement from shifting part of the burden of tax from capital to labor is the equivalent of a permanent increase in consumption of between only 1.491% and 1.858%, and is attained when the tax rate on asset income is lowered to between 0.148 and 0.186. Allowing the tax rate to vary over time raises the maximum welfare benefit to 1.865%. All the results are very robust to a wide range of elasticities of labor supply. (JEL E62, H21, H50)     

TAX POLICY AND INCOME INEQUALITY IN THE UNITED STATES, 1979–2007

This paper assesses the effects of U.S. tax policy reforms on inequality over around three decades, from 1979 to 2007. It applies a new method for decomposing changes in government redistribution into (1) a direct policy effect resulting from policy changes and (2) the effects of changing market incomes. Over the period as a whole, the tax policy changes increased income inequality by pushing up the income share of high‐income earners (the top 20%). (JEL H23, H31, H53, P16)     

Repeal of the Estate Tax and Its Impact on Philanthropy

The estate tax has many advocates and opponents. We present a review of the primary arguments and empirical evidence promulgated in support of continuation and for repeal. Overall, we find that there are plausible theories and strong, but not definitive, empirical evidence on both sides of the issue. Further research is needed that more clearly isolates differences between the income‐tax and estate‐tax (that is, the after‐tax cost or “price” of a donation or bequest) effects, the independent‐income and wealth effects (how having higher income or wealth has an effect on giving during life and at death), and married and single estate tax filers. These differences can be best isolated using longitudinal data. Data and analyses for both the short run and long run are necessary before society can reasonably predict the impact the repeal of the estate tax will have on both giving during life and charitable bequests.     

THE PASS‐THROUGH OF BEER TAXES TO PRICES: EVIDENCE FROM STATE AND FEDERAL TAX CHANGES

From a policy perspective, it is crucial to understand how changes in beer taxes affect retail beer prices. This study provides new evidence of the pass‐through rate of state beer taxes to prices in a post‐merger era. Our estimates that use state‐level beer tax changes suggest that a 10‐cent increase in beer taxes raises retail prices by about 17 cents. Comparable findings from the 1991 federal beer tax increase show a rise in retail beer prices of 19–22 cents. Our findings suggest that consumers fully bear the burden of increased beer taxes. (JEL H2, I0, D4)     

THE CREDIT‐CHANNEL TRANSMISSION MECHANISM AND THE NONLINEAR GROWTH AND WELFARE EFFECTS OF INFLATION AND TAXES

With the credit‐channel effect driven by the central bank's open market operations, this paper's model easily gives rise to the nonlinear inflation‐growth nexus, which is evidenced by a number of cross‐country empirical studies. The threshold level of the inflation rate is found to be lower when tax rates are higher. The presence of the credit‐channel effect also provides the rationale for setting positive (and smaller than 1) tax rates on consumption, labor income, and capital income. The optimal tax rates rise as the inflation target declines. Under a fiscal policy rule where labor and capital income taxes move proportionally to each other, the optimal capital income tax rate could be higher than the optimal labor income tax rate. Under a sufficiently large central bank balance sheet, the credit‐channel effect will be so weak that inflation and all kinds of taxes are growth and welfare repressing. This provides a rationale for central banks that have implemented quantitative easing policies to shrink their balance sheets. (JEL E58, E62, O42)     

WHAT MOTIVATES POLITICAL PREFERENCES? SELF‐INTEREST,IDEOLOGY, AND FAIRNESS IN A LABORATORY DEMOCRACY

Substantial prior literature has established that subjects in laboratory experiments are typically willing to sacrifice their own well being to make financial allocations more equal among participants. We test the applicability of this result in an environment that contains some of the key contextual issues that are usually excluded from more abstract games, but which might be important in situations involving income redistribution. Our general finding is that votes for a redistributive tax are almost entirely in accordance with self‐interest: above‐average earners vote for low tax rates and below‐average earners vote for high tax rates. A measure of subjects' preferences for fairness or equality, their self‐reported economic ideology, is not directly related to their voting behavior in this experiment. Because the ideology measure should be correlated with any intrinsic preferences regarding inequality aversion, we conclude that any preferences for fairness or inequality that our subjects possess are not strong enough to overcome self‐interest in this context. We do, however, find evidence for a possible indirect effect of ideology on choice behavior in that more conservative subjects tend to be more responsive to their self‐interest than the more liberal subjects. (JEL C90, D63)     

ON THE ESTIMATION OF REACTION FUNCTIONS FOR SEVERAL ECONOMIC POLICY MAKERS

When two policy authorities are exercising instruments to affect a common macroeconomic variable, this paper emphasizes the need for nonpolicy agents anticipating policy actions to identify a separate reaction function for each fully informed policy maker, based on observed equilibrium instrument settings. Estimation problems on reaction functions arise if the policy authorities have imperfect knowledge about the system they are attempting to control: if intercept errors occur in the system, long run policy may attain global equilibrium, but short run observed policy must be modelled as a disequilibrium process; if slope coefficient errors exist, even long run instrument settings may be biased due to asymptotic biases on coefficient estimation by authorities.     

VOTING FOR INCOME‐IMMISERIZING REDISTRIBUTION IN THE MELTZER–RICHARD MODEL

This paper argues that income received via redistributive transfers, unlike labor income, requires no direct sacrifice of leisure; this makes it attractive to many voters even if it leaves them poorer. This point is made within the classic Meltzer and Richard (1981) model wherein heterogeneous voters evaluate an income‐redistribution program that finances a lump‐sum transfer to all via a distorting income tax. The political‐equilibrium policy under majority rule is the tax most preferred, utility‐wise, by the median voter. Ironically, this voter, and many poorer voters, may support a redistribution policy that leaves them poorer in income terms but with higher utility. (JEL H2, E6, D72)