The IMF Working Papers series is designed to make IMF staff research available to a wide audience. Almost 300 Working Papers are released each year, covering a wide range of theoretical and analytical topics, including balance of payments, monetary and fiscal issues, global liquidity, and national and international economic developments.
This paper studies the impact on growth, welfare, and government debt of fiscal reform packages
in a theoretical model drawing together three key features of the endogenous growth literature:
(i) investment in technology (in the form of human capital) offsets diminishing marginal
productivity of private capital, allowing for perpetual growth in output per capita; (ii) changes in
investment behavior because of cuts to distortionary tax rates impact long-run growth; and
(iii) public capital has a role influencing total factor productivity and growth. A quantitative
simulation using reasonable parameter values suggests that modest capital and/or labor income
tax cuts and public investment increases have significant positive effects on consumer welfare
but small effects on per capita income growth, where fiscal costs are offset by reductions in
unproductive government spending. Capital income tax cuts and public investment increases
continue to boost welfare when offset by consumption tax rises (rather than spending cuts),
although the welfare benefits of modest labor income tax cuts are outweighed by the costs of a
compensating consumption tax increase.