We examine the nature of the relationship between government size and economic growth and identify the optimal level of government size using a large dataset through a novel and very general non-linear panel Generalized Method of Moments approach. We show that this relationship is statistically signi…cant above and below the optimal level, even after splitting our sample to developed and developing countries. Finally, we …nd an asymmetric impact of government size on economic growth in both developed and developing countries around the estimated threshold.

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This paper undertakes a normative investigation of the quantitative properties of optimal tax smoothing in a business cycle model with state contingent debt, capital-skill complementarity and endogenous skill acquisition under technology and public expenditure shocks. We find that skilled and unskilled labour tax smoothing maintain quantitatively under externalities and exogenous shocks in skill acquisition, as well as when the relative skill supply is exogenously determined. We further find that the government finds it optimal to reduce both the size of the wedge between the marginal rates of substitution and transformation in skill attainment in the long-run and the standard deviation of this wedge over the business cycle. This is achieved by subsidising skill creation and taxing both types of labour income

This paper analyses optimal income taxes over the business cycle under a balanced-budget restriction, for low, middle and high income households. A model incorporating capital-skill complementarity in production and di¤erential access to capital and labour markets is developed to capture the cyclical characteristics of the US economy, as well as the empirical observations on wage (skill premium) and wealth inequality. We …nd that the tax rate for high income agents is optimally the least volatile and the tax rate for low income agents the least countercyclical. In contrast, the path of optimal taxes for the middle income group is found to be very volatile and counter-cyclical. We further …nd that the optimal response to output-enhancing capital equipment technology and spending cuts is to increase the progressivity of income taxes. Finally, in response to positive TFP shocks, taxation becomes more progressive after about two years.

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