nep-pbe New Economics Papers
on Public Economics
Issue of 2005‒02‒01
twenty papers chosen by
Joao Carlos Correia Leitao
Universidade da Beira Interior

  1. The Deficit–Interest Rate Connection: an empirical assessment of the EU By Carlos Vieira
  2. Why Tax Energy? Towards a More Rational Energy Policy By David Newbery
  3. Trade, Interdependence and Exchange Rates By Doireann Fitzgerald
  4. Some Patterns in Center-State Fiscal Transfers in India: An Illustrative Analysis By Nirvikar Singh; Garima Vasishtha
  5. Reform of the Stability and Growth Pact: Reducing or Increasing the Nuisance? By Paola Monperrus-Veroni; Francesco Saraceno
  6. Escaping Mass Education – Why Harvard Pays By Bergh, Andreas; Fink, Günther
  7. Strategy-Proof Allocation of Multiple Public Goods By Svensson , Lars-Gunnar; Torstensson, Pär
  8. Integration and Tax Competition: An Empirical Study of OECD Countries By Hansson, Åsa; Olofsdotter, Karin
  9. Education, Redistributive Taxation and Confidence By Konrad, Kai A.; Spadaro, Amedeo
  10. Does it Cost to be Virtuous? The Macroeconomic Effects of Fiscal Constraints By Fabio Canova; Evi Pappa
  11. Foreign Direct Investment and the Domestic Capital Stock By Mihir C. Desai; C. Fritz Foley; James R. Hines Jr.
  12. Politics, Relief, and Reform: The Transformation of America's Social Welfare System during the New Deal By John Joseph Wallis; Price Fishback; Shawn Kantor
  13. Reducing the Risk of Investment-Based Social Security Reform By Martin Feldstein
  14. Time Consistency of Fiscal and Monetary Policy: A Solution By Mats Persson; Torsten Persson; Lars E.O. Svensson
  15. Residential Segregation in General Equilibrium By Patrick Bayer; Robert McMillan; Kim Rueben
  16. Theft and Taxes By Mihir A. Desai; Alexander Dyck; Luigi Zingales
  17. Shadow Prices for a Nonconvex Public Technology in the Presence of Private Constant Returns By John A. Weymark
  18. Assessing the extent of strategic manipulation for the average voting rule By Régis Renault; Alain Trannoy
  19. The Progressivity of Equalization Payments in Federations By Nicolas Gravel; Michel Poitevin
  20. Redistribution and Economic Growth in Integrated Economics By Günther Rehme

  1. By: Carlos Vieira (Department of Economics, University of Évora)
    Abstract: The progressive deterioration of public finances in most developed countries, during the last two decades, prompted an extensive discussion on the effects of government deficits on the interest rate and, consequently, on employment and economic growth. The empirical literature, largely focused on the US, is far from conclusive. This paper examines this relationship in six core EU countries using non-causality tests, including the recently proposed LA-VAR test. The evidence suggests that, contrary to the conventional economic theory, no causal effect from the deficits to the interest rate can in general be found. On the contrary, the econometric tests highlight the preponderant negative consequences of high interest rates on the government total deficit.
    Keywords: deficits, interest rates, causality, LA-VAR test, European Union
    JEL: E43 E62 H62
    Date: 2004
  2. By: David Newbery
    Abstract: The same fuels are taxed at widely different rates in different countries while different fuels are taxed at widely different rates within and across countries. Coal, oil and gas are all used to generate electricity, but are subject to very different tax or subsidy regimes. This paper considers what tax theory has to say about efficient energy tax design. The main factors for energy taxes are the optimal tariff argument, the need to correct externalities such as global warming, and second-best considerations for taxing transport fuels as road charges, but these are inadequate to explain current energy taxes. EU energy tax harmonisation and Kyoto suggest that the time is ripe to reform energy taxation.
    Keywords: tax, energy, oil, optimal tariff, externalities, exhaustible resources, global warming, road charges
    JEL: Q4 Q48 H21 H23 L71 R48
    Date: 2005–01
  3. By: Doireann Fitzgerald (University of California Santa Cruz Economics Dept.)
    Abstract: The empirical "gravity" equation is extremely successful in explaining bilateral trade. This paper shows how a multi-country model of specialization and costly trade (i.e. a microfounded gravity model) can be applied to explain empirical exchange rate puzzles. One such puzzle is the fact that nominal exchange rates are enormously volatile, but that this volatility does not appear to affect inflation. The gravity model is very successful in explaining this puzzle. In a sample of 25 OECD countries in the post- Bretton Woods period, the gravity prediction of inflation substantially outperforms the purchasing power parity prediction. The gravity prediction matches the volatility of actual inflation, and tracks its path closely. The superior performance of the gravity prediction is explained primarily by the fact that it takes account of the interaction of specialization with home bias. The stability of inflation in very open economies is explained in addition by the fact that the size of bilateral trade is negatively correlated with bilateral exchange rate volatility.
    Keywords: Exchange rate disconnect, Trade, Gravity equation,
    Date: 2004–11–01
  4. By: Nirvikar Singh (University of California, Santa Cruz); Garima Vasishtha (University of California Santa Cruz Economics Dept.)
    Abstract: India's federal system is distinguished by tax and expenditure assignments that result in large vertical fiscal imbalances, and consequent transfers from the central government to the state governments. Several channels are used for these transfers: the Finance Commission, the Planning Commission, and central government ministries. We use panel data on center-state transfers to examine how the economic and political importance of the states influences the level and the composition of per capita transfers to the states, as well as differences in temporal patterns of Planning Commission and Finance Commission transfers. We find evidence that states with indications of greater bargaining power seem to receive larger per capita transfers, and that there is greater temporal variation in Planning Commission transfers.
    Date: 2004–09–01
  5. By: Paola Monperrus-Veroni (Observatoire Français des Conjonctures Économiques); Francesco Saraceno (Observatoire Français des Conjonctures Économiques)
    Abstract: This paper aims at providing a quantitative assessment of different proposals for reforming the Stability and Growth Pact by extending a counterfactual experiment performed in Eichengreen and Wyplosz (1998). Using estimated coefficients from a reduced form model, we simulate the path of the output gap for the largest Euro zone countries (France, Germany, Italy) after imposing limits to structural deficit according to different fiscal rules (structural deficit rules, golden rules and rules that incorporate the stock of debt). For each of these countries we can rank the different reform proposals in terms of output loss over the period considered. Our analysis has the merit of using a uniform method and hence allow a comparison across countries and across rules. The main results of the experiment, which emerge robustly, are (a), that the golden rule would be the most beneficial both using individual country's criteria and global criteria; and (b) that the status quo, the Maastricht rule, is less restrictive than many currently debated alternatives.
    Keywords: Stability Pact, Golden Rule, European Union, Institutional Reform, Fiscal Rules
    JEL: E62 E63 H62
    Date: 2005
  6. By: Bergh, Andreas (Department of Economics, Lund University); Fink, Günther (Bocconi University)
    Abstract: Private universities, as opposed to publicly financed ones, are dominant in some countries and almost non-existent in others. We develop a dynamic model to demonstrate that private providers emerge as soon as they can profitably sell an elite signal to the most highly talented. As private providers engage in cream skimming, the returns to publicly provided education decreases, but the average return to higher education increases because of the signaling benefit created. We use numerical simulations to demonstrate the dynamic implications of our model, and provide some basic empirical evidence in support of the theory presented
    Keywords: Higher education; tertiary education; Signaling
    JEL: H52 I22
    Date: 2005–01–11
  7. By: Svensson , Lars-Gunnar (Department of Economics, Lund University); Torstensson, Pär (Department of Economics, Lund University)
    Abstract: We characterize the set of strategy-proof social choice functions (SCFs), the outcome of which are multiple public goods. The set of feasible alternatives is a subset of a product set with a finite number of elements. We do not require the SCFs to be ‘onto’, but instead impose the weaker requirement that every element in each category of public goods is attained at some preference profile. Admissible preferences are arbitrary rankings of the goods in the various categories, while a separability restriction concerning preferences among the various categories is assumed. We find that the range of the SCF is uniquely decomposed into a product set in general coarser than the original product set, and that the SCF must be dictatorial in each component of the range. If the range cannot be decomposed at all, the SCF is dictatorial in spite of the separability assumption on preferences, and a form of the Gibbard-Satterthwaite theorem with a restricted preference domain is obtained.
    Keywords: Strategy-proof; multiple public goods; decomposability; weakly onto; component-wise dictatorial.
    JEL: D71 D78 H41
    Date: 2005–01–19
  8. By: Hansson, Åsa (Department of Economics, Lund University); Olofsdotter, Karin (Department of Economics, Lund University)
    Abstract: This paper studies the effects of integration on capital taxation in a number of OECD countries. Unlike most previous papers on the subject, we combine key features from the new economic geography theory with the standard tax competition framework. We consider effective as well as statutory corporate tax rates and include several measures of agglomeration forces in the analysis. Our empirical findings provide some support for both models. We find that increased integration has a negative effect on corporate tax rates while agglomeration forces influence tax rates positively, though the latter result is sensitive to how agglomeration is measured.
    Keywords: tax competition; new economic geography; economic integration
    JEL: F12 F15 H72
    Date: 2005–01–21
  9. By: Konrad, Kai A. (Free University of Berlin, WZB Berlin and IZA Bonn); Spadaro, Amedeo (PSE Paris-Jourdan Sciences Economiques and Universitat de les Illes Balears)
    Abstract: We consider redistributional taxation between people with and without human capital if education is endogenous and if individuals differ in their perceptions about own ability. Those who see their ability as low like redistributive taxation because of the transfers it generates. Those who see their ability as high may also like redistributive taxation because it stops other people receiving education and increases the quasi rents on their own human capital. It is surprising that this rather indirect effect can overcompensate them for the income loss from taxation and make the overconfident want higher taxes than the less confident do. The results, however, turn out to be in line with empirical evidence on the desired amount of redistribution among young individuals.
    Keywords: education, redistribution, confidence
    JEL: D78 H23 I21
    Date: 2005–01
  10. By: Fabio Canova; Evi Pappa
    Abstract: We study whether and how fiscal restrictions alter the business cycle features of macrovariables for a sample of 48 US states. We also examine the %u201Dtypical%u201D transmission properties of fiscal disturbances and the implied fiscal rules of states with different fiscal restrictions. Fiscal constraints are characterized with a number of indicators. There are similarities in second moments of macrovariables and in the transmission properties of fiscal shocks across states with different fiscal constraints. The cyclical response of expenditure differs in size and sometimes in sign, but heterogeneity within groups makes point estimates statistically insignificant. Creative budget accounting is responsible for the pattern. Implications for the design of fiscal rules and the reform of the Stability and Growth Pact are discussed.
    JEL: E3 E5 H7
    Date: 2005–01
  11. By: Mihir C. Desai; C. Fritz Foley; James R. Hines Jr.
    Abstract: This paper evaluates evidence of the impact of outbound foreign direct investment (FDI) on domestic investment rates. OECD countries with high rates of outbound FDI in the 1980s and 1990s exhibited lower domestic investment than other countries, which suggests that FDI and domestic investment are substitutes. U.S. time series data tell a very different story, however: years in which American multinational firms have greater foreign capital expenditures coincide with greater domestic capital spending by the same firms. One dollar of additional foreign capital spending is associated with 3.5 dollars of additional domestic capital spending in the time series, implying that foreign and domestic capital are complements in production by multinational firms. This effect is consistent with cross sectional evidence that firms whose foreign operations expand simultaneously expand their domestic operations, and suggests that interpretation of the OECD cross sectional evidence may be confounded by omitted variables.
    JEL: F23 F21 H87
    Date: 2005–01
  12. By: John Joseph Wallis; Price Fishback; Shawn Kantor
    Abstract: The American social welfare system was transformed during the 1930s. Prior to the New Deal public relief was administered almost exclusively by local governments. The administration of local public relief was widely thought to be corrupt. Beginning in 1933, federal, state, and local governments cooperatively built a larger social welfare system. While the majority of the funds for relief spending came from the federal government, the majority of administrative decisions were made at state and local levels. While New Dealers were often accused of playing politics with relief, social welfare system created by the New Deal (still largely in place today) is more often maligned for being bureaucratic than for being corrupt. We do not believe that New Dealers were motivated by altruistic motives when they shaped New Deal relief policies. Evidence suggests that politics was always the key issue. But we show how the interaction of political interests at the federal, state, and local levels of government created political incentives for the national relief administration to curb corruption by actors at the state and local level. This led to different patterns of relief spending when programs were controlled by national, rather than state and local officials. In the permanent social welfare system created by the Social Security Act, the national government pressed for the substitution of rules rather than discretion in the administration of relief. This, ultimately, significantly reduced the level of corruption in the administration of welfare programs.
    JEL: N3 N4 H0 H1 H4
    Date: 2005–01
  13. By: Martin Feldstein
    Abstract: This paper describes the risks implied by a mixed system of Social Security pension benefits with different combinations of pay-as-you-go taxes and personal retirement account (PRA) saving. The analysis shows how these risks can be reduced by using alternative private market guarantee strategies. The first such strategy uses a blend of equities and TIPS to guarantee at least a positive real rate or return on each year%u2019s PRA saving. The second is an explicit zero-cost collar that guarantees an annual rate of return by giving up all returns above a certain level. One variant of these guarantees uses a two stage procedure: a guaranteed return to age 66 and then a separate guarantee on the implicit return in the annuity phase. An alternative strategy provides a combined guarantee on the return during both the accumulation and the annuity phase. Simulations are presented of the probability distributions of retirement incomes relative to the %u201Cbenchmark%u201D benefits specified in current law. Calculations of expected utility show that these risk reduction techniques can raise expected utility relative to the plans with no guarantees. The ability to do so depends on the individual%u2019s risk aversion level. This underlines the idea that different individuals would rationally prefer different investment strategies and risk reduction options.
    JEL: H0 H3 H5
    Date: 2005–01
  14. By: Mats Persson; Torsten Persson; Lars E.O. Svensson
    Abstract: This paper demonstrates how time consistency of the Ramsey policy - the optimal fiscal and monetary policy under commitment - can be achieved. Each government should leave its successor with a unique maturity structure for the nominal and indexed debt, such that the marginal benefit of a surprise inflation exactly balances the marginal cost. Unlike in earlier papers on the topic, the result holds for quite a general Ramsey policy, including timevarying polices with positive inflation and positive nominal interest rates. We compare our results with those in Persson, Persson, and Svensson (1987), Calvo and Obstfeld (1990), and Alvarez, Kehoe, and Neumeyer (2004).
    JEL: E31 E52 H21
    Date: 2005–01
  15. By: Patrick Bayer; Robert McMillan; Kim Rueben
    Abstract: Black households in the United States with high levels of income and education (SES) typically face a stark tradeoff when deciding where to live. They can choose neighborhoods with high levels of public goods or a high proportion of blacks, but very few neighborhoods combine both, a fact we document clearly. In the face of this constraint, we conjecture that racial sorting may dramatically lower the consumption of local public goods by high-SES blacks. To shed light on this, we estimate a model of residential sorting using unusually detailed restricted Census microdata, then use the estimated preferences to simulate a counterfactual world in which racial factors play no role in household residential location decisions. Results from this exercise provide the first evidence that sorting on the basis of race gives rise to significant reductions in the consumption of local public goods by black and high-SES black households in particular. These consumption effects lead to significant losses of welfare and are likely to have important intergenerational implications.
    JEL: H0 J7 R0 R2
    Date: 2005–01
  16. By: Mihir A. Desai (Harvard University and NBER); Alexander Dyck (University of Toronto); Luigi Zingales (University of Chicago, NBER, and CEPR)
    Abstract: This paper analyzes the interaction between corporate taxes and corporate governance. We show that the characteristics of a taxation system affect the extraction of private benefits by company insiders. A higher tax rate increases the amount of income insiders divert and thus worsens governance outcomes. In contrast, stronger tax enforcement reduces diversion and, in so doing, can raise the stock market value of a company in spite of the increase in the tax burden. We also show that the corporate governance system affects the level of tax revenues and the sensitivity of tax revenues to tax changes. When the corporate governance system is ineffective (i.e., when it is easy to divert income), an increase in the tax rate can reduce tax revenues. We test this prediction in a panel of countries. Consistent with the model, we find that corporate tax rate increases have smaller (in fact, negative) effects on revenues when corporate governance is weaker. Finally, this approach provides a novel justification for the existence of a separate corporate tax based on profits.
    Keywords: Corporate Tax, Corporate governance
    Date: 2003–03
  17. By: John A. Weymark (Department of Economics, Vanderbilt University)
    Abstract: Diamond and Mirrlees have shown that public sector shadow prices should be set equal to the private producer prices in some circumstances even if taxes are not optimal when the public production technology is convex and some of the private sector firms have constant-returns-to-scale technologies. In this article, it is shown that the optimal public production plan maximizes profits using the private producer prices on a subset of the public production set if this set is nonconvex. Sufficient conditions for profit maximization using these prices to identify the optimal public production plan on the whole public production set are also identified.
    Keywords: Shadow prices, public sector pricing, Diamond and Mirrlees
    JEL: D61 H21
    Date: 2005–01
  18. By: Régis Renault (Université de Cergy-Pontoise, THEMA); Alain Trannoy (EHESS, GREQAM-IDEP)
    Abstract: The average voting procedure reflects the weighted average of expressed opinions in [0,1]. Participants typically behave strategically. We evaluate the discrepancy between the average taste and the average vote. If the population is sufficiently large, it is possible to contruct approximations of both the average vote and the average taste which may be readily compared. We construct upper and lower bounds for the limit average vote that depend on the limit average taste. If the average taste is central enough, the range of possible values for the average voting outcome is narrower than the corresponding range for majority voting. For instance, if the average taste is at 1/2, the limit equilibrium outcome is this value plus or minus roughly .2, whereas the median maybe anywhere in the [0,1] interval. Results are robust to the introduction of incomplete information.
    Keywords: Average voting, Nash equilibrium, Strategic Bias.
    JEL: D74 H41 I22
    Date: 2004–02
  19. By: Nicolas Gravel (Centre de Sciences Humaines (CSH), Delhi & IDEP-GREQAM); Michel Poitevin (CIREQ and Department of economics, université de Montréal)
    Abstract: We investigate the conditions under which an inequality averse and additively separable welfarist constitution maker would always choose to set up a progressive equalization payment scheme in a federation with local public goods. A progressive equalization payment scheme is defined as a list of per capita net (possibly negative) subsidies - one such net subsidy for every jurisdiction - that are decreasing with respect to jurisdictions per capita wealth. We examine the question in a setting in which the case for progressivity is a priori the strongest, namely, all citizens have the same utility function for the private good and the public good, inhabitants of a given jurisdiction are all identicals and are not able to move accross jurisdictions. We show that a necessary and sufficient condition that the objective function of the constitution maker must satisfy to favour a progressive equalization payment scheme for all distributions of wealth and all population sizes is to be additively separable between each jurisdiction’s per capita wealth and number of inhabitants. When interpreted for a mean of order r social welfare function, this condition is shown to be equivalent to additive separability of the individual’s indirect utility function with respect to wealth and the price of the public good. Some implications of this restriction to the case where the citizens direct utility function is additively separable are also derived.
    JEL: D63 H10 H20 H21 H41 H70 H73 H77
    Date: 2004–07
  20. By: Günther Rehme (Department of Economics, Darmstadt University)
    Abstract: Many theoretical models show that redistribution causes low growth or capital outflows even though empirically redistribution and growth are often found to be positively associated across countries. This paper argues that tax competition and the danger of capital outflows leads optimizing governments to pursue high growth, no redistribution policies in technologically similar economies. However, the government of a technologically superior economy may attract foreign and domestically owned capital and may have relatively higher GDP growth and more resources for redistribution than in a closed economy. Thus, redistributing governments may have a relatively stronger interest in technological advance or high economic integration. The results imply that one may well observe a positive association between redistribution and growth across countries.
    Keywords: Growth; Redistribution; Tax Competition; Capital Mobility
    JEL: O4 H21 D33 C72 C21 F21
    Date: 2004–08

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