Public capital subject to congestion is introduced into an endogenous growth model and the transitional dynamic paths under alternative fiscal policies are characterized. Several new insights are obtained from this more general framework. During the transition, the two capital stocks always approach their common equilibrium growth rate from opposite directions. Government policy induces the more volatile response in the capital stock upon which it impinges most directly: private capital in the case of a tax, public capital in the case of expenditure. Finally, we characterize a time-varying income tax that enables the decentralized economy to replicate both the first-best transitional dynamics and steady-state equilibrium of a centrally planned economy. The steady-state component corrects for externalities that arise when government expenditure deviates from its social optimum, and the effects of congestion. The transitional component corrects for myopic behavior by the representative agent along the adjustment path. 615 616 STEPHEN J. TURNOVSKYintroduced as an argument in the production function to reflect, among other reasons, an externality in production. Two formulations can be identified. Most of the existing literature treats the current flow of government expenditure as the source of contribution to productive capacity; see, e.g., Aschauer (1988), Barro (1989), and Turnovsky and Fisher (1995). Although this specification has the virtue of tractability, it is open to the criticism that insofar as productive government expenditures are intended to represent public infrastructure, it is the accumulated stock, rather than the current flow, that is relevant.Despite this criticism, few authors have adopted the alternative approach of specifying productive government expenditure as a stock. Arrow and Kurz (1970) were the first authors to formulate government expenditure as a form of investment. More recently, Baxter and King (1993) study the macroeconomic implications of increases in the stocks of public goods. They derive the transitional dynamic responses of output, investment, consumption, employment, and interest rates to such policies by calibrating a real business-cycle model.The impact of fiscal policy, including the role of government capital, on longterm economic growth is an important policy issue. However, the Ramsey model, with its steady-state growth rate being determined by long-term demographic and technological factors, and therefore independent of the usual macroeconomic policy instruments, does not provide an appropriate framework for addressing this question. By contrast, the recent endogenous-growth literature places particular emphasis on fiscal policy as a determinant of long-run national growth rates and growth differentials. 2 As in the Ramsey model, most authors have introduced productive government expenditure as a flow; see, e.g., Barro (1990), Turnovsky (1996a. These studies therefore are subject to the limitations noted above.A recent exception is a paper by Futagami et al., (1993), wh...
