Fiscal Policy in Models of Economic Growth

This thesis analyses fiscal policy in four models of economic growth. The first model is a variant of Jones [61]; overlapping generations are introduced and it is shown that the allocation is dynamically inefficient. As in Diamond [42], a debt financed transfer to current generations can lead to a Pareto improvement; interestingly, the improvement is achieved not by discouraging capital accumulation but through a reallocation of labour between sectors. The second is a two-sector model of growth with public capital. It is shown that perpetual fiscal deficit cannot be sustained. The first best allocation is examined and for the log-utility case an explicit solution can be found. Implementation of the optimal allocation is discussed. The third model features disembodied technological progress as in Solow [100], but it is assumed dependent on public investment. Conditions under which perpetual deficits are sustainable are discussed. The fourth and last model introduces excludable and congestible public services. The optimal fiscal policy, including optimal user charges, is studied. It is shown that in the long-run the optimal income tax is zero and that revenues from user charges is more than sufficient to finance public investment in infrastructures.