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Dynamic Inconsistency, Rational Expectations, and Optimal Government Policy
Brian Hillier
James M. Malcomson
Abstract
The consensus in the literature is that the use of only lump-sum taxation is a necessary and sufficient condition for the dynamic consistency of optimal open-loop government policies. We show that this does not hold for models with nonhomogeneous agents. Then the stated condition is neither necessary nor sufficient. Dynamic inconsistency arises because of a shortage of appropriate government policy instruments which amounts to the consensus condition only in special cases.
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