Implementing the Modified Golden Rule? Optimal Ramsey Taxation with Incomplete
Dr. Yunmin Chen, postdoctoral researcher, Institute of Economics, Academia Sinica, Taiwan
Dr. Yunmin Chen is a postdoctoral researcher in Institute of Economics, Academia Sinica, Taiwan. Her fields of specialty are public economics, macroeconomics and contract theory.
What is the prescription of Ramsey capital taxes for Aiyagari’s (1994) incomplete-markets economy in the long run? Aiyagari (1995) addressed the question and showed that positive capital taxation shold be imposed to implement the so-called modified golden rule. This paper revisits the issue and finds sharply different results. Working with the power utility function, we demonstrate: (i) the shadow price of resources must diverge in the limit, and (ii) the steady state may fail to exist at the optimum. The key to our results is embedded in the hallmark of incomplete markets that the risk-free rate is lower than the time discount rate in the steady state.