Old-age Social Security versus Forward Intergenerational Public Goods Provision

Abstract

This paper introduces an overlapping-generations model with earnings heterogeneity and borrowing constraints. The labour income tax and the allocation of tax revenue between social security and forward intergenerational public goods are determined in a bidimensional majoritarian voting game played by successive generations. The political equilibrium is characterized by an ends-against-the-middle equilibrium where low-income and high-income individuals form a coalition in favour of a lower tax rate and less social security while middle-income individuals favour a higher tax rate and greater social security. Government spending then shifts from social security to public goods provision if higher wage inequality is associated with a borrowing constraint and a high elasticity of marginal utility of youth consumption.