How does the presence of corruption affect the optimal mix between consumption and income taxation? | PUBLICBarreto, FINANCEARTICLE Alm REVIEW / CORRUPTION CORRUPTION, OPTIMAL TAXATION, AND GROWTH RAUL A. BARRETO University of Adelaide JAMES ALM Georgia State University How does the presence of corruption affect the optimal mix between consumption and in- come taxation? In this article, the authors examine this issue using a simple neoclassical growth model, with a self-seeking and corrupt public sector. They find that the optimal tax mix in a corrupt economy is one that relies more heavily on consumption taxes than on income taxes, relative to an economy without corruption. Their model also allows them to investigate the effect of corruption on the optimal (or welfare-maximizing) size of government, and their results indicate that the optimal size of government balances the wishes of the corrupt public sector for a larger government, and so greater opportunities for corruption, with those in the private sector who prefer a smaller government. Not sur- prisingly, the optimal size of government is smaller in an economy with corruption than in one without corruption. Keywords: endogenous growth; corruption; taxation 1. INTRODUCTION Governments have a natural monopoly over the provision of many publicly provided goods and services, such as property rights, law and order, and contract enforcement, and a selfless and impartial govern- ment official would provide these services efficiently, at their mar- ginal cost. However, it has long been recognized that public officials are often self-seeking, and such officials may abuse their public posi- tion for personal gain. These actions include such behavior as de- manding bribes to issue a license, awarding contracts in exchange for money, extending subsidies to industrialists who make contributions, PUBLIC FINANCE REVIEW, Vol. 31 No. X, Month 2003 1- DOI: © 2003 Sage Publications 1 2 PUBLIC FINANCE REVIEW stealing from the public treasury, and selling government-owned com- .
