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PREANNOUNCED OPTIMAL TAX REFORM

Published online by Cambridge University Press:  28 April 2005

DAVID DOMEIJ  and
PAUL KLEIN
DAVID DOMEIJ
Affiliation:
Stockholm School of Economics
PAUL KLEIN
Affiliation:
University of Western Ontario
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Abstract

In constitutional democracies, laws take time to be deliberated upon, to be passed, and to be implemented. Motivated by this observation, we study the properties of optimal tax reform when it has to be announced in advance of its implementation. We find that a delay between announcement and implementation has large effects on the optimal fiscal policy during the transition to the new steady state. On the other hand, we find that the welfare gains from optimal tax reform are fairly robust to the introduction of an implementation lag. Increasing the lag from zero to four years reduces the welfare gains by less than a quarter. Moreover, it turns out that this reduction of the welfare gain is mainly due to the delay itself rather than the effect of preannouncement on the character of the optimal tax reform.

Keywords

Tax ReformPreannouncementWelfare EffectsImplementation Lag
Type
ARTICLES
Information
Macroeconomic Dynamics , Volume 9 , Issue 2 , April 2005 , pp. 150 - 169
Copyright
© 2005 Cambridge University Press

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