Efficiency of Cuts in Various Taxation Rates to Foster Economic Growth in a Framework of Wages Rigidity

Abstract

We use a simple DSGE model with prices and wages rigidities to evaluate the efficiency of various fiscal policies intended to sustain economic activity and growth. We show that a fiscal policy aiming at reducing the tax burden would be all the more efficient as wages are more flexible. Besides, a decrease of the capital taxation rate appears as the most efficient fiscal policy. Indeed, it would decrease the capital cost, and it would foster private and public investment, but also private and public consumption. Wages rigidities would then reduce the inflationary tensions due to this economic growth. In comparison, a decrease of the consumption taxation rate increases private consumption, and all other components of global demand; however, economic growth is then more limited than with a decrease of the capital taxation rate. Finally, a decrease of the labor taxation rate would increase private investment and consumption and public expenditure exactly in the same proportions, but it would be much less efficient than the previous policies in order to sustain economic growth. Besides, it would favor public consumption expenditure, whereas the decrease of consumption or capital taxation rates would mainly promote the most productive public investment expenditure.