Research
Working Papers
When to Tax Capital: Fiscal Policy with Idiosyncratic Investment Risks and Heterogeneous Agents (pdf)
Abstract:
This paper examines the effect of fiscal policies on the investment and the welfare of heterogeneous agents over the business cycle. I embed business cycles and a government into the framework of Angeletos (2007) with independent and identically distributed idiosyncratic investment risks whose volatility is assumed to be countercyclical. All entrepreneurs make identical saving and portfolio choices each period, allowing for exact aggregation which facilitates computation. The model matches income inequality and dynamics of the income distribution over the cycle compared to the US data. The government sets rules of capital income tax rate and debt as functions of current output fixing the steady state level. I calibrate the cyclicality of fiscal policy to the US data as the baseline and adjust the parameters indicating cyclicality to study the effect of counterfactual policy. A combination of capital tax and debt policy creates a welfare conflict between entrepreneurs and workers. The policy, which optimizes utilitarian social utility, specifies that the capital income tax rate should increase by 0.45 percentage point and the debt should decrease by 0.59% facing a 1% decrease in output. It is possible that the government should reduce the capital tax in the recession if it increases the weight of workers on social welfare. The impulse response of aggregate variables to a negative productivity shock indicates that in general, the higher capital tax rate and the less debt when the adverse shock hits, the more capital and output in the early stage after the shock. The result of the welfare conflict is robust to constant idiosyncratic investment risks, but not to the removal of idiosyncratic investment risks.
Loss Aversion, Inefficiency and Policy Interventions (pdf)
Abstract:
The paper studies a production economy with exotic preferences featuring loss aversion, a core concept commonly accepted in behavioral economics. The representative household obtains utility directly from fluctuations in asset returns, in addition to consumption. I uncover that the competitive equilibrium is inefficient as long as the agent is loss averse without any frictions, due to pecuniary externalities. The household does not internalize the price effect on her welfare so that she invests more in capital than the optimum requires. The policy to implement the constrained optimal allocations rationalizes policy interventions: the government should tax capital to reduce capital stock and raise the utility from asset returns.
When to Tax Capital: Fiscal Policy with Idiosyncratic Investment Risks and Heterogeneous Agents (pdf)
Abstract:
This paper examines the effect of fiscal policies on the investment and the welfare of heterogeneous agents over the business cycle. I embed business cycles and a government into the framework of Angeletos (2007) with independent and identically distributed idiosyncratic investment risks whose volatility is assumed to be countercyclical. All entrepreneurs make identical saving and portfolio choices each period, allowing for exact aggregation which facilitates computation. The model matches income inequality and dynamics of the income distribution over the cycle compared to the US data. The government sets rules of capital income tax rate and debt as functions of current output fixing the steady state level. I calibrate the cyclicality of fiscal policy to the US data as the baseline and adjust the parameters indicating cyclicality to study the effect of counterfactual policy. A combination of capital tax and debt policy creates a welfare conflict between entrepreneurs and workers. The policy, which optimizes utilitarian social utility, specifies that the capital income tax rate should increase by 0.45 percentage point and the debt should decrease by 0.59% facing a 1% decrease in output. It is possible that the government should reduce the capital tax in the recession if it increases the weight of workers on social welfare. The impulse response of aggregate variables to a negative productivity shock indicates that in general, the higher capital tax rate and the less debt when the adverse shock hits, the more capital and output in the early stage after the shock. The result of the welfare conflict is robust to constant idiosyncratic investment risks, but not to the removal of idiosyncratic investment risks.
Loss Aversion, Inefficiency and Policy Interventions (pdf)
Abstract:
The paper studies a production economy with exotic preferences featuring loss aversion, a core concept commonly accepted in behavioral economics. The representative household obtains utility directly from fluctuations in asset returns, in addition to consumption. I uncover that the competitive equilibrium is inefficient as long as the agent is loss averse without any frictions, due to pecuniary externalities. The household does not internalize the price effect on her welfare so that she invests more in capital than the optimum requires. The policy to implement the constrained optimal allocations rationalizes policy interventions: the government should tax capital to reduce capital stock and raise the utility from asset returns.