Collection Lags and the Optimal Inflation Tax: A Reconsideration
The observation that collection lags combine with inflation to erode fiscal revenues has long been a strong argument against seigniorage (Tanzi (1978)). However, with the exception of Dixit (1991), who used a general equilibrium model to reject this argument, the optimal tax literature has not analyzed how collection lags affect desired tax structures. In this paper, this issue is re-examined using an overlapping generations version of Dixit’s model. It is shown that depending on the specification of the collection cost function and the size of government spending in GDP, collection lags may increase, leave unchanged, or reduce the desired rate of inflation.
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agent collection cost function collection cost technology collection lags consumption set cost of collection cost of income costly income tax critical value ct(t desired inflation desired rate Dixit elasticity of real equation 6a fiat currency fiat money Friedman's rule government budget constraint government spending higher inflation income tax collections income tax rate inﬂation inflation tax rate inflationary finance interest elasticity interior solution INTERNATIONAL MONETARY FUND intertemporal choice log(R marginal collection costs marginal cost marginal propensity maximize necessary conditions FONC optimal income tax optimal inflation rate optimal rate optimal tax menu payment lag percent of GDP period presence of collection propensity to consume public finance quadratic equation rate of inflation real collection costs real currency balances real currency demand real money demand real value reduced form require real resources right-hand side seigniorage share of government spending in GDP tax liability underground economy unit cost value of g Végh yields