Optimal tax and expenditure policies in a market economy with life‐cycle savings

Abstract

PurposeThis paper aims to investigate whether the concept of the golden rule of capital accumulation is an applicable normative guidepost for a market economy even in the absence of the distortions usually associated with income and consumption taxes.Design/methodology/approachThe paper uses a simple two‐period overlapping generations model with productive public and private capital.FindingsAs long as the government is subject to some instrument limitation that constrains its ability to effect non‐distortive optimal inter‐generational income redistributions, the market optimum for capital accumulation would generally deviate from the golden rule towards either side of the rule.Originality/valueThe paper provides a transparent characterization of the nature of the optimal deviation from the golden rule in terms of easily interpretable consumption and production parameters.