Events at CERGE-EI

Facundo Piguillem, Ph.D.

Einaudi Institute for Economics and Finance, Rome, Italy

Authors: Facundo Piguillem and Alessandro Riboni

Abstract: In modern democracies public policies are negotiated by elected policymakers. When they agree to replace the current status quo, the approved policy becomes the status quo in the next period. Yet, these two ingredients, bargaining and endogenous status quo, are absent in most macroeconomic models. We revisit the classical capital taxation problem adding legislative bargaining with an endogenous status quo. We analyze a growth model where agents (legislators and consumers) are heterogenous in wealth. We find that legislators may not propose or accept high taxes because doing so may improve, via a change of the status quo, the bargaining power of "poorer" legislators in future negotiations. On average equilibrium capital taxes are between 12% and 55%, depending on the distribution of wealth and other variations on the institutional environment. We also find that a large status quo bias could lead to political growth cycles: decades with low taxes and growing capital are followed by decades with high taxes and decreasing capital (and vice versa).

JEL Classification: E6, H0.

Keywords: Redistribution, Time Consistency, Capital taxes, Legislative Bargaining, Markov-perfect Equilibria, Political Growth Cycles.

Full Text:  “Dynamic Bargaining over Redistribution in Legislatures”