Transitional Dynamics in a Growth Model with Distributive Politics

This paper constructs a heterogenous agent model of endogenous distribution and growth. When the labor leisure choice of agents is exogenous, the factor holding ratios of households converges to a mass point that is independent of the initial distribution of capital in the steady state. There is complete equality and every household?s preferred tax rate equals the growth maximizing tax rate. There is no distributive conflict in the long run. When the labor leisure choice of households is endogenous, there is also complete convergence in the factor holding ratios of agents in the steady state. However, the tax rate under majority voting is less than the growth maximizing tax rate which leads to distributive conflict in the long run. These results extend the model of endogenous distribution and growth in Das and Ghate (2004) in two ways. First, we assess the impact of redistributive politics on growth by looking at the effect of income inequality on the tax rate and labor supply. Second, the model is solved using a more empirically plausible specification of the government budget constraint in which households vote over the tax rate on capital income instead of a tax on wealth. The general insight gained from the analysis is that characterizing the transitional dynamics in a model of redistributive politics and growth is not an intractable proposition.