Optimal Taxation in the Solow-Uzawa Growth Model with Public Goods
Abstract
This paper makes an original contribution to the literature of optimal taxation by introducing Ramsey
taxation to the Solow-Uzawa growth model to examine genuine dynamic interdependence between growth and
optimal taxation. We introduce a public sector to the Uzawa two-sector growth model. The public sector supplies
public goods and services. The government financially supports by the public sector by collecting taxes on the
household’s wage income and wealth income under the assumption that the utility level is maximized. We derive
the optimal taxation rule and construct the dynamics of the national economy. The model studies a nonlinear
dynamics between national and sectoral growth, economic structural change, wealth/capital accumulation, and
optimal tax rates in perfect competitive markets with the government intervention. The model has a unique
stable equilibrium point with the chosen parameter values. We carry out comparative dynamic analysis to
analyze effects of exogenous changes in a few parameters on the transitional process and long-term economic
structure of the economic dynamics.
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