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Article
The Time-Inconsistency Problem of Labor Taxes and Constitutional Constraints
Dynamic Games and Applications
  • Begoña Domínguez, University of Queensland
  • Zhigang Feng, University of Nebraska at Omaha
Document Type
Article
Publication Date
1-1-2015
Disciplines
Abstract

This paper investigates the time-inconsistency problem of labor taxes in an economy with balanced-budget policies and no capital taxes. With full commitment, we show that Ramsey labor taxes change with the cost of distortionary taxation and with the cost of not being able to tax capital. We numerically show that these make labor taxes increasing over time. With limited commitment, we find that this time-inconsistency problem leads to underprovision of public consumption. For our baseline parameter values, we find that imposing carefully chosen bounds on labor taxes as constitutional constraints can be optimal. While our proposed bounds sustain the Ramsey as the best sustainable equilibrium, our lower bounds alone or, in combination with some upper bounds, induce higher public consumption and higher welfare in the worst sustainable equilibrium.

Comments

The final publication is available at Springer via https://link.springer.com/article/10.1007/s13235-015-0149-z.

Citation Information
Begoña Domínguez and Zhigang Feng. "The Time-Inconsistency Problem of Labor Taxes and Constitutional Constraints" Dynamic Games and Applications Vol. 6 Iss. 2 (2015) p. 225 - 242
Available at: http://works.bepress.com/zhigang-feng/2/