Fiscal Policy Plays Fundamental Role In Long-Run Growth
| Pages | 120-123 |
Page 120
Issues relating to the appropriate scope, nature, and conduct of fiscal policy-both in the context of easing macroeconomic instability in the short run and fostering growth in the long run-have taken on a new urgency in policy debates. Although economists working in public finance have always believed that fiscal policy-that is, the manipulation of fiscal instruments to achieve specific objectives-can affect economic growth, the idea that policy matters for long-term growth has only recently been established in mainstream economic thinking. The basic premise of this literature is that a country's growth performance in thePage 121 long run is endogenously determined by a set of variables that are responsive to-and affected by-policy.
In an IMF Working Paper, Fiscal Policy and Long-Run Growth, Vito Tanzi and Howell H. Zee survey the literature-much of it based on the new endogenous growth theory-on the impact on long-run growth of the three main instruments of fiscal policy-taxation, public expenditure, and aggregate budgetary balance from the perspective of allocative efficiency, macroeconomic stability, and income distribution.
Taxation. Both tax policy and the structure of the tax system can have implications for long-run growth. Some of the most direct conceptual links between fiscal policy and growth have traditionally been associated with tax policy because the allocative impacts of taxation (for example, on the choice between leisure and labor, consumption and saving, and the relative profitabilities of different industries) are readily apparent. One of these links rests on the idea that the allocative decisions of private economic agents facing taxes are different from decisions that would be made in the absence of taxes. This tax-induced distortion in economic behavior results in a net efficiency loss to the whole economy-the so-called excess burden of taxation.
Another link is the impact of taxation on factor accumulation, particularly capital. A tax on income from physical capital lowers the after-tax return to savings and is, therefore, a disincentive to accumulate physical capital. The ultimate impact on growth, however, is ambiguous,since it depends on how other factors, such as human capital, are affected by the tax.
The overall design of the structure of the tax system could have important implications for growth. For a given total tax level, a relative shift from income to consumption taxation would reduce the disincentive to save and, consequently, boost capital accumulation. A heavy reliance on trade taxes could impede an economy's capacity to...
To continue reading
Request your trial