Distributional Effects of Public Investment when Wealth and Classes are Back

Abstract

In developed economies, wealth inequality is high, while public capital is underprovided. Here, we study the impact of heterogeneity in saving behavior and income sources on the distributional effects of public investment. A capital tax is levied to finance productive public capital in an economy with two types of households: high income households who save dynastically and middle income households who save for retirement. We find that inequality is reduced the higher the capital tax rate is and that low tax rates are Pareto‐improving. There is no clear‐cut trade‐off between efficiency and equality: middle income households’ consumption is maximal at a capital tax rate that is higher than the rate which maximizes high income households’ consumption.

Infrastructure and Inequality: Insights From Incorporating Key Economic Facts About Household Heterogeneity

“…We then calibrate the model to closely match stylized facts of the U.S. economy. In Mattauch et al (2016), we show analytically, for a basic version of the model, that under these heterogeneity assumptions, capital taxfinanced public investment can enhance productivity while reducing inequality. Here, we generalize the basic model, in order to assess more channels through which public investment affects the distribution of wealth, welfare, and income.…”

“…The paradox furthermore implies that when middle-income households increase their saving, the high-income households' saving will be relatively lower. For more details on the Pasinetti Paradox in the context of a simpler version of this model see Mattauch et al (2016). Note that the Pasinetti Paradox does not occur for endogenous growth, since in that case the interest rate no longer depends only on the time preference rate of the high-income household.…”

Overcoming Wealth Inequality by Capital Taxes that Finance Public Investment

“…This type of model was originally introduced by Pasinetti (1962) and has been taken up by Samuelson and Modigliani (1966), Stiglitz (1967Stiglitz ( , 1969 and Judd (1985). More recently Baranzini (1991), Klenert et al (2018), Mattauch et al (2016), Michl (2009) and Stiglitz (2015bStiglitz ( , 2016bStiglitz ( , 2018a have analyzed related models in which workers also save in a life-cycle fashion, thus accounting for the importance of retirement savings. In particular, Mattauch et al (2016) and Stiglitz (2017) proved that public investment financed through capital taxes is Pareto-improving for low tax rates and that workers prefer higher capital tax rates than capitalists.…”

Pareto efficient taxation and expenditures: Pre- and re-distribution

“…This model is a generalization ofStiglitz (2015) andMattauch et al (2016Mattauch et al ( , 2017. It many ways, it formalizes the model that is implicit in Piketty (2015), building onStiglitz (1969a).16 In the discussion below, we often refer to results based on a utilitarian social welfare function, such as that employed byMirrlees (1971).…”

“…A two period egalitarian family social welfare function = ( , +1 ) would seek to compensate an individual whose father is poor (and therefore whose childhood has more likely been spent in poverty) with higher income, calling for a quite different transition matrix.74 With stochastic wages and returns to capital, these can be analyzed along the lines ofStiglitz (2015). As discussed in the previous section, Pareto efficient taxation within each group can be analyzed in standard models such as those presented in earlier sections of this paper.75 Thus, we generalizeMattauch et al (2016) andMattauch et al (2017). Their models used logarithmic utility functions for both capitalists and workers, which naturally generate the kinds of fixed savings rates assumed by the earlier literature.…”