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Sub-optimality of the Friedman rule with distorting taxes

Bernardino Adao and Andre Silva ()

FEUNL Working Paper Series from Universidade Nova de Lisboa, Faculdade de Economia

Abstract: We find that the Friedman rule is not optimal with government transfers and distortionary taxation. This result holds for heterogeneous agents, standard homogeneous preferences, and constant returns to scale production functions. The presence of transfers changes the standard optimal taxation result of uniform taxation. As transfers cannot be taxed, a positive nominal net interest rate is the indirect way to tax the additional income derived from transfers. The higher the transfers, the higher is the optimal inflation rate. We calibrate a model with transfers to the US economy and obtain optimal values for inflation substantially above the Friedman rule. JEL codes: E52, E62, E63

Keywords: Friedman rule; fiscal policy; monetary policy; taxes; transfers; inflation (search for similar items in EconPapers)
Pages: 26 pages
Date: 2017
New Economics Papers: this item is included in nep-dge, nep-mac and nep-pbe
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Working Paper: Sub-Optimality of the Friedman Rule with Distorting Taxes (2018) Downloads
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