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Implications of productive government spending for fiscal policy

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  • Daniel, Betty C.
  • Gao, Si

Abstract

The standard assumption in macroeconomics that government spending is unproductive can have substantive implications for tax and spending policy. Productive government spending introduces a positive feedback between the tax rate, the productive capacity of the economy, and tax revenue. We allow marginal tax revenue to be optimally allocated between productive subsidies to human capital and utility-enhancing government consumption and calculate Laffer Curves for the US. Productive government spending yields higher revenue-maximizing tax rates, steeper slopes at low tax rates and higher peaks. The differences are particularly pronounced for the labor-tax Laffer curve. The use of tax revenue is an important determinant of the actual revenue that a tax rate increase generates.

Suggested Citation

  • Daniel, Betty C. & Gao, Si, 2015. "Implications of productive government spending for fiscal policy," Journal of Economic Dynamics and Control, Elsevier, vol. 55(C), pages 148-175.
    • Handle: RePEc:eee:dyncon:v:55:y:2015:i:c:p:148-175
    DOI: 10.1016/j.jedc.2015.04.004
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    More about this item

    Keywords

    Fiscal policy; Laffer curve; Welfare; Human capital;
    All these keywords.

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • H20 - Public Economics - - Taxation, Subsidies, and Revenue - - - General
    • H52 - Public Economics - - National Government Expenditures and Related Policies - - - Government Expenditures and Education

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