Dynamic optimal taxation, rational expectations and optimal control

Finn E. Kydland, Edward C. Prescott

Research output: Contribution to journalArticle

137 Scopus citations

Abstract

Within a rational expectations framework, policy has effect if it alters relative prices and policy evaluations are exercises in modern public finance theory. The time inconsistency of an optimal taxation plan precludes the use of standard control theory for its determination. In this article recursive methods are developed that overcome this difficulty. The technique is novel in that the constraint set as well as the value function are determined recursively. Even though there is little hope of the optimal plan being implemented - because of its time inconsistency - we think the exercise is of more than pedagogical interest. The optimal plan's return is a benchmark with which to compare the time consistent solution under alternative institutional constraints which society might choose to impose upon itself.

Original languageEnglish (US)
Pages (from-to)79-91
Number of pages13
JournalJournal of Economic Dynamics and Control
Volume2
Issue numberC
DOIs
StatePublished - 1980
Externally publishedYes

ASJC Scopus subject areas

  • Economics and Econometrics
  • Control and Optimization
  • Applied Mathematics

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