Public investment criteria, insurance markets, and income taxes

Abstract

The evaluation of small government investments is studied in a one-commodity, two-period world with risk and income taxation, assuming both complete and incomplete insurance markets. When marginal personal tax rates differ or markets are incomplete, there are at least two interpretations of the assumption that the distribution of income is optimal. The correct discount rate for riskless investment depends on which interpretation is chosen. The correct adjustment for risk generally does not. The use of nonmarket information - relating the returns from the proposed investment to those from ongoing activities - to compute this adjustment is explored.