Optimal Capital Versus Labor Taxation with Innovation-Led Growth

Philippe Aghion, Ufuk Akcigit and Jesus Fernandez-Villaverde

PIER Working Paper Archive from Penn Institute for Economic Research, Department of Economics, University of Pennsylvania

Abstract: Chamley (1986) and Judd (1985) showed that, in a standard neoclassical growth model with capital accumulation and infinitely lived agents, either taxing or subsidizing capital cannot be optimal in the steady state. In this paper, we introduce innovation-led growth into the Chamley-Judd framework, using a Schumpeterian growth model where productivity-enhancing innovations result from pro.t-motivated R&D investment. Our main result is that, for a given required trend of public expenditure, a zero tax/subsidy on capital becomes suboptimal. In particular, the higher the level of public expenditure and the income elasticity of labor supply, the less should capital income be subsidized and the more it should be taxed. Not taxing capital implies that labor must be taxed at a higher rate. This in turn has a detrimental effect on labor supply and therefore on the market size for innovation. At the same time, for a given labor supply, taxing capital also reduces innovation incentives, so that for low levels of public expenditure and/or labor supply elasticity it becomes optimal to subsidize capital income.

Keywords: : Capital tax; labor tax; optimal taxation; innovation; R&D; growth. (search for similar items in EconPapers)
JEL-codes: H2 O3 O4 (search for similar items in EconPapers)
Pages: 45 pages
Date: 2013-05-23
New Economics Papers: this item is included in nep-acc, nep-dge, nep-fdg and nep-ino
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Citations: View citations in EconPapers (41)

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Related works:
Working Paper: Optimal Capital Versus Labor Taxation with Innovation-Led Growth (2013)
Working Paper: Optimal Capital Versus Labor Taxation with Innovation-Led Growth (2012)
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