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Fiscal Policy, Growth and Income Distribution in the UK and the US

Keshab Bhattarai (), Jonathan Haughton () and David Tuerck

No 8607, EcoMod2015 from EcoMod

Abstract: Income and income inequality increased substantially in the UK during the industrial revolution. Income inequality was the worst around 1880. This triggered enactments of more egalitarian tax and transfer system and halved the income inequality by the 1960s. Inequality has risen again with fiscal system reforms in the last five decades. As the taxes and transfers affect different categories of households and firms differently a multi-household multisectoral DCGE model of the UK and the US are appropriate modelling frameworks for such analyses. Providing such analysis for fairer system of taxes, apparently missing from the existing literature, is the main contribution of this paper.By analysing solutions of a dynamic computable general equilibrium (DCGE) model it is shown how policies could be designed for the optimal equitable paths of UK economy in the 21st century. We also found replacing the existing taxes by fair taxes to be favourable for growth and distribution in the US. Whether the growth enhancing and inequality reducing objectives could be achieved in the long run depends on the type of labour-leisure and consumption saving choices of low as well as the high income households and changes in the pattern of use of capital or labour input by firms in response to the public policies that often aim on achieving higher rate of growth with greater equality of income and utility for all types of UK households. It is also clear from the model that tax-reforms designed to tackle short-run problem have very detrimental effects on long run growth and may not be helpful in reducing the inequality in the distribution of income. Thus there is a clear trade-off between growth and equality. The greater equality in income alone does not automatically guarantee greater welfare for everyone no matter what the configuration of the social welfare function is. The bottom line is that the levels of consumption and utility cannot grow when the economy is not growing.

Keywords: UK and USA; General equilibrium modeling; Public finance (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-pbe and nep-upt
Date: 2015-07-01
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