Tax Policy and Human Capital Formation with Public Investment in Education

Abstract

This paper studies the effects of distortionary taxes and public investment in an endogenous growth OLG model with knowledge transmission. Fiscal policy affects growth in two respects: first, work time reacts to variations of prospective tax rates and modifies knowledge formation; second, public spending enhances labour efficiency but also stimulates physical capital through increased savings. It is shown that Ramsey-optimal policies reduce savings due to high tax rates on young generations, and are not necessarily growth-improving with respect to a pure private system. Non-Ramsey policies that shift the burden on adults are always growth-improving due to crowding-in effects: the welfare of all generations is unambiguously higher with respect to a private system, and there generally exists a continuum of non-optimal tax rates under which long-run growth and welfare are higher than with the Ramsey-optimal policy.

Human Capital, Resource Constraints and Intergenerational Fairness

“…The literature on human capital formation shows that educational expenditures have ambiguous e¤ects on growth: depending on whether the economy favors private rather than public education systems, …nancing human capital formation may generate crowding-out or crowding-in e¤ects on private wealth, and therefore positive or negative in ‡uence on economic growth (Blankenau and Simpson, 2004). As regards normative questions, when education is costly the optimal policy typically includes public expenditures that tend to raise education levels (Valente, 2005): the interaction between human capital and resource preservation will be obviously a¤ected, but is di¢ cult to say a priori in which direction. Comparing the e¤ects of private versus public education regimes thus appears an interesting task for future research on sustainability issues.…”