A computational approach to optimum public policies

Abstract

This paper describes and illustrates the use of an algorithm that computes optimal taxes and public production in an economy where the government’s tax powers are restricted. The special features of the optimal restricted tax problem required the solution of problems that have not arisen in previous applications of Scarf’s algorithm. Indeed, these problems could only be dealt with properly by developing two versions of the algorithm that can be used together.

This paper outlines the economic model and explains its special features. The two versions of the algorithm are then described and their convergence properties established. The combined use of the two versions of the algorithm is illustrated in a problem that involves the choice between public and private control of production and shows that domestic tax restrictions can make inefficient public production desirable.

Revised draft of an invited paper presented to a workshop on The Solution and Application of Economic Equilibrium Models held at Stanford University in June 1984. The work reported here was done while Heady was visiting Queen’s University at Kingston. The World Bank does not accept responsibility for the views expressed herein which are those of the author(s) and should not be attributed to the World Bank or to its affiliated organizations. The findings, interpretations, and conclusions are the results of research supported by the Bank; they do not necessarily represent official policy of the Bank. The designations employed, the presentation of material, and any maps used in this document are solely for the convenience of the reader and do not imply the expression of any opinion whatsoever on the part of the World Bank or its affiliates concerning the legal status of any country, territory, city, area, or of its authorities, or concerning the delimitation of its boundaries, or national affiliation.