J Econ (2015) 115:133–152

DOI 10.1007/s00712-014-0424-2

Redistributive taxation, wealth distribution,

and economic growth

Toshiki Tamai

Received: 26 April 2012 / Accepted: 2 October 2014 / Published online: 16 October 2014
© Springer-Verlag Wien 2014

Abstract This paper examines the relationship between wealth distribution and eco-
nomic growth in an endogenous growth model with heterogeneous households and
redistributive taxation. In this paper, we incorporate an endogenous determination
of redistributive policy into the model, focusing on the relation between pre- and
post-tax inequality. Endogenous redistributive policy affects wealth distribution and
economic growth. Therefore, the relation between post-tax inequality and economic
growth is different from that between pre-tax inequality and economic growth. Results
show that there exists a negative correlation between pre-tax inequality and economic
growth, whereas there exists an inverted-U relationship between post-tax inequality
and economic growth in a voting equilibrium.

Keywords Redistributive tax · Inequality · Economic growth

JEL Classification O11 · O15 · H23

1 Introduction

A main concern in the modern theory of economic growth is clarification of the

interaction between economic growth and income distribution. An early study con-

I thank two anonymous referees and Giacomo Corneo, the Editor of this journal, for their helpful
comments and suggestions. I am also grateful to Shinya Fujita, Akira Kamiguchi and the seminar
participants at Nagoya University for their advice and comments. This work was supported by a
Grant-in-Aid for Young Scientists (B) (No. 22730268) of the Japan Society for the Promotion of Science.

T. Tamai (B)
Faculty of Economics, Kinki University, 3-4-1 Kowakae, Higashi, Osaka 577-8502, Japan
e-mail: tamai@kindai.ac.jp

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134 T. Tamai

ducted by Kuznets (1955, 1963) presented the hypothesis that income inequality ini-
tially increases, and subsequently decreases, with economic development.1 Following
Kuznets, many studies have investigated the relation between income distribution and
growth (e.g., Alesina and Rodrik 1994; Bertola 1993; Galor and Zeira 1993; Perotti
1993, 1996; Persson and Tabellini 1994).2 In the 1990s, through these theoretical and
empirical studies, a broad consensus was formed that inequality can be negatively
associated with economic growth.
Several empirical studies have produced countervailing evidence against this con-
sensus (e.g., Baliscan and Fuwa 2003; Barro 2000; Deininger and Squire 1998; Forbes
2000; Li and Zou 1998). These studies appealed to empirical evidence such as a non-
robust or positive relation between economic growth and inequality found in rich coun-
tries as reasons to challenge the consensus. However, subsequent empirical research
has pointed out various methodological and data problems in these studies and have
revealed a negative relation between inequality and economic growth (e.g., Knowles
2005; Rehme 1999, 2000, 2003a, b).
One key to answering this complicated question regarding the relation between
inequality and economic growth is found in the nonlinearity of those relations. Indeed,
some theoretical studies have presented a nonlinear relation between inequality and
economic growth, thereby contributing to the clarification of the issues over empirical
findings (e.g., Corneo and Jeanne 1999; Rehme 2007; Tamai 2009).3 However, these
works did not specifically examine the role of a pure redistributive transfer in the
relation between inequality and economic growth.
In this paper, we examine the relation between endogenous redistributive policy,
wealth inequality, and economic growth in an endogenous growth model with het-
erogeneous wealth endowment.4 The shape of pre-tax wealth distribution might play
an important role in determining an endogenous redistributive policy. Moreover, an
endogenous redistributive policy might affect the shape of post-tax wealth distribu-
tion. Both the shape of wealth distribution and of an endogenous redistributive policy
influence the equilibrium growth rate. Consequently, the endogenous redistributive
policy links wealth distribution to economic growth.
We focus on two endogenous redistributive policies: one is based on the max–min
social objective (Rawlsian social welfare) and another is based on majority-voting.
The former case is often taken to represent the social optimum under egalitarianism.
See for example, Okuno and Yakita (1981). However, that assumption is not without

1 See Atkinson and Bourguignon (2000) for issues related to the Kuznets hypothesis.
2 See Aghion et al. (1999) for a general review and survey of this issue. Numerous theoretical approaches
exist in the literature: a focus on the imperfection of the credit market (e.g., Dahan and Tsiddon 1998; Galor
and Zeira 1993; Hendel et al. 2005; Owen and Weil 1998), a political economy approach (e.g., Alesina and
Rodrik 1994; Bertola 1993; Perotti 1993; Persson and Tabellini 1994), a representative consumer theory of
distribution (e.g., Caselli and Ventura 2000; García-Peñalosa and Turnovsky 2011) and others.
3 Corneo and Jeanne (1999) examine a two-class growth model in which agents concern themselves with
both consumption and social status. Rehme (2007) examines the effects of education on growth and inequal-
ity in an endogenous growth model with low-skilled and high-skilled people. Tamai (2009) incorporates a
heterogeneous labor-skill endowment and an endogenous determination of minimum wage in his model.
4 Grüner (1995) also examines the relation among redistributive policy, inequality, and growth using a
simple overlapping-generations model with human capital accumulation and heterogeneous learning skill.

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Redistributive taxation, wealth distribution, and economic growth 135

problems as shown by, for example, Atkinson and Stiglitz (1980, Ch.11), and Rehme
(1999, 2003b). In this paper, I follow the broad belief that the two objectives are
equivalent and assume that the Rawlsian objective indeed represents a (comparatively
more) egalitarian welfare criterion. The latter case portrays a natural representation
of the realistic determination process of redistributive policy and fits into the existing
literature such as that of Alesina and Rodrik (1994), Persson and Tabellini (1994), and
subsequent studies. Making a comparison between two regimes clarifies an important
influence of redistributive policy on the link between inequality and growth.
In our model, wealth inequality is evaluated using the Gini coefficient of pre-tax
wealth distribution or post-tax wealth distribution. Then, a Rawlsian redistributive pol-
icy generates a negative relation between post-tax inequality and growth. Nevertheless,
the possibility of an inverted-U relation between post-tax inequality and growth exists
in the case of majority voting. The difference of criteria for policy-making causes
a different response of redistributive tax to the condition of wealth inequality. Thus
different relations arise between inequality and growth through redistributive taxa-
tion.
Median household’s behavior is affected by a structural change in pre-tax wealth
distribution less than the behavior of the poorest household. If the poorest household
preference is reflected in a redistributive policy, then the link between the pre-tax and
post-tax Gini is monotonic because they benefit from redistributive taxation. How-
ever, the link between pre-tax and post-tax Gini is not monotonic under majority
voting because the benefit from a redistributive policy is weakened by the negative
growth effect of redistributive taxation, which is greater on the poorest households.
Consequently, an endogenous redistributive policy plays a key role in determining the
relation between inequality and growth. This paper provides a theoretical explanation
that complements some recent studies by analyzing the links between endogenous
redistributive policies and economic growth.
The remainder of this paper is organized as follows: Section 2 presents a descrip-
tion of our model, solves the model, and characterizes the equilibrium dynamics.
Section 3 examines the Rawlsian redistributive policy and the redistributive policy
through majority voting; it also examines the growth effects of exogenous shocks
through redistributive taxation. Section 4 analyzes the relation between wealth distri-
bution and economic growth. Finally, Sect. 5 concludes this paper.

2 The model

Consider a closed economy with a single final good and with heterogeneous house-
holds. Time is continuous and indexed by t.5 All endogenous variables are functions
with respect to time t and their dynamic equations are derived from the first-order
conditions for the optimization problem of households, the technology of wealth accu-
mulation, and resource constraints.

5 As described in this paper, a dot above the letter denotes the derivative with respect to time, e.g., ẋ :=
d x/dt.

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136 T. Tamai

2.1 Behavior of households under wealth redistribution

There exists a continuum of households with heterogeneous initial wealth and identical
preferences. The population in the economy is normalized to unity. The lifetime utility
function of each member of the population is
 ∞ Ci1−σ − 1
Ui = exp(−ρt)dt, (1)
0 1−σ

where Ci and ρ respectively denote private consumption and the subjective discount
rate.6
Assume that the wealth accumulation function is linear with respect to wealth
holdings. In other words, the production technology is linear with respect to capital
input. This is designated as a simple AK growth model by Romer (1986).7 The budget
constraint of households is assumed as

Ẇi = AWi − Ci − T (Wi ), (2)

where Wi represents wealth holdings, A is the rate of return on wealth (economy-wide

productivity), and T (Wi ) is the tax function. For these analyses, we assume that the
tax function takes the following form:8

T (Wi ) = (Wi − W )τ A, (3)


where W := Wi · d F(Wi ) shows the average level of wealth holdings and F(·)
stands for a cumulative distribution function. It is noteworthy that τ and W are given
for individual households. Equation (3) implies the income tax function because A is
the rate of return on wealth, AWi household i’s capital income, and AW the average
capital income. Moreover, Eq. (3) implies a pure redistributive tax scheme. The house-
holds earning above-average income pay taxes, but households earning below-average
income receive redistributive transfers.
Households maximize their objective function (1) subject to their budget constraint
(2), and the tax function (3), as taking initial wealth, the stream of average wealth, and
the tax rate as givens. Solving the optimization problem of households, we obtain

Ċi (1 − τ )A − ρ
= , (4)
Ci σ

and the transversality condition.


6 When σ = 1, we have U = ∞ log C exp(−ρt)dt.
i 0 i
7 In the literature on economic growth and inequality, some studies have adopted this assumption (e.g.,
Alesina and Rodrik 1994; Rehme 1999, 2000; Tamai 2009).
8 Recently, Tamai (2010) investigated the interaction between public goods provisions and wealth accu-
mulation using the extended Romer model with this redistributive transfer.

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Redistributive taxation, wealth distribution, and economic growth 137

2.2 Aggregate variables and dynamic equations

In this subsection, we derive the dynamic equations of individual and aggregate vari-
ables. Using (4), we obtain

Ċi Ċ (1 − τ )A − ρ
= = , (5)
Ci C σ

where C := Ci d F(Wi ). Equations (2) and (3) engender

Ẇi Ci AW τA
= (1 − τ )A − +τ = (1 − τ )A − ci + . (6)
Wi Wi Wi wi

As presented above, ci := Ci /Wi is the ratio of household i’s consumption to personal

wealth and wi := Wi /W is the ratio of household i’s wealth to average wealth.
Integrating (6) over the distribution function, we arrive at

Ẇ C
= A− = A − c, (7)
W W
where c := C/W . Equations (5)–(7) show the dynamics of economic variables. To
characterize the dynamics of economic variables, we now introduce the following
definition:
Definition (BGE) The balanced growth equilibrium is defined as the state in which the
endogenous variables Ci , Wi , C, and W are growing at the same rate under Eqs. (5)–
(7).
Regarding the existence, uniqueness, and stability of the balanced growth equilib-
rium, we establish Lemma 1 as described below.
Lemma 1 The economy is always in the balanced growth equilibrium; then

(1 − τ )(σ − 1)A + ρ τA (σ − 1 + τ )A + ρ
ci∗ = + ∗ and c∗ = .
σ wi σ

Proof See Appendix. 


In the remainder of this paper, we assume that (1 − τ )A > ρ and (1 − τ )(σ −
1)A +ρ > 0 hold. These assumptions are conventional restrictions of deep parameters
(Barro and Sala-i-Martin 1995). The former inequality ensures that a balanced growth
rate is positive, while the second inequality ensures that the ratio of consumption
to wealth is positive. In this model, the ratio of consumption to wealth is adjusted
immediately to its long-run value. The growth rate of an individual household’s wealth
holdings equilibrates instantaneously with the growth rate of average wealth holdings.
Therefore, the economy always remains in a balanced growth equilibrium. The ranking
of wealth holdings is thus equivalent to the initial state because all household wealth is
growing at a common growth rate. Under Lemma 1, we obtain the following lemma:

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138 T. Tamai

Lemma 2 The ranking of wealth holdings is invariant over time.

By Lemma 2, we specifically examine the distribution of initial wealth because

the redistributive tax in the model does not change the order of wealth holdings. By
specifying the distribution, we can provide clear results. The initial wealth before redis-
tribution is Pareto-distributed. It is well known that distributions of wealth exhibit a
Pareto distribution (e.g., Champernowne 1953; Cowell 2011, Ch.4).9 The Pareto dis-
tribution is defined over W j ≥ W0 . Additionally, for a wealth level W j , its cumulative
distribution function is given as
 α
W0
F(W j ) = 1 − ,
Wj

where W0 > 0 denotes the lowest pre-tax wealth and α > 1 represents the shape of
the distribution, the so-called the Pareto index.10 The parameter α is positively linked
to the equality measures. Details are described in this and the following subsection.
For the proceeding analyses, we derive some statistics. The expected value and
median of pre-redistribution wealth are, respectively,

αW0 1
W = and Wm = 2 α W0 , (8)
α−1

where Wm denotes the median’s wealth.11 The property shown in (8) is known as van
der Wijk’s law: A simple proportionality relation exists between the base wealth and
the average wealth of the subgroup who have wealth over and above this base wealth,
whatever the chosen value of that base wealth. Using (8) and the definition of wi , we
obtain
 
α−1 α−1 1
w0 = and wm = 2α . (9)
α α

In (9), w0 is the ratio of the poorest household’s wealth to average wealth; wm is the
ratio of the median’s wealth to average wealth. Therefore, wi becomes a simple equality
measure. We refer to w0 as the minimum/average index and wm as the median/average
index.
By (9), we can readily demonstrate that dw0 /dα > 0 and w0 ∈ (0, 1) for α ∈
(1, ∞). When α increases, the gap separating minimum wealth and average wealth
level becomes smaller. Similarly, the properties of wm are summarized as follows:

9 Cowell (2011, Ch.4) in particular states that the Pareto distribution is the most useful application as an
approximate description of the distribution of incomes and wealth among the rich and the moderately rich,
although the Pareto formulation has proved to be extremely versatile across the social sciences. See Cowell
(2011, Ch.4) for details of the properties of a Pareto distribution.
10 The expected value does not exist if α ≤ 1. In addition, the variance does not exist if α ≤ 2. Creedy
(1977) finds the Pareto index between 1.7 and 3.

11 The average value is derived from W = ∞ W d F(W ). Solving F(W ) = 1/2 with respect to W ,
W0 i i m m
the median is obtained.

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Redistributive taxation, wealth distribution, and economic growth 139

Lemma 3 The median/average index is increasing in the Pareto index and satisfies
∗ ∈ (0, 1) for α ∈ (1, ∞).
wm

Proof Taking a logarithmic derivative of (9), we obtain

 
1 dwm 1 1 ln 2 1 α
= − − 2 = 2 − ln 2 > 0. (10)
wm dα α−1 α α α α−1

The relation above is true because α/(α−1) > 1 and ln 2 = 0.693147180559945 · · · <
1 hold. From (9), limα→1 wm ∗ = 0 and lim ∗ ∗
α→+∞ wm = 1 hold. Starting from wm = 0
∗ ∗
at α = 1, wm is monotonically increasing in α. Then the upper bound of wm is unity
because limα→+∞ wm ∗ = 1. Therefore, w ∗ ∈ (0, 1) is established for α ∈ (1, ∞). 

m

Lemma 3 shows that the gap separating the median wealth and the average wealth
level becomes smaller when α increases. Median wealth is always less than average
wealth. Therefore, an increase in α is linked to a decrease in inequality within simple
inequality indexes. In the next subsection, we specifically examine the relation between
α and an conventional inequality index.

2.3 Measures of wealth inequality

In this subsection, we consider the Gini coefficient as the index of wealth inequal-
ity and the effect of redistributive taxation on wealth distribution. Under the Pareto
distribution, the pre-tax Gini coefficient, G W , can be given as12

1
GW = . (11)
2α − 1

We can readily find dG W /dα < 0: an increase in α decreases a pre-tax wealth inequal-
ity. The Gini coefficient measures the area between the Lorenz curve and the 45 degree
line as a fraction of the total area under the 45 degree line (Lambert 2001, p.27). The
Lorenz curves associated with higher values of α are closer to the 45 degree line,
which represents perfect equality. Therefore, the pre-tax Gini coefficient is decreasing
in α.
Next, we derive the Gini coefficient for post-tax wealth distribution. Letting X be
the post-tax income flow, that is X := (1 − τ )AZ + τ AW , then the post-tax Gini
coefficient, G X , can be given as follows (see Appendix A.2.):

1−τ
GX = . (12)
2α − 1

Because ∂G X /∂α > 0, an increase in α decreases the post-tax wealth inequality for
a given tax rate.

12 See Appendix A.2. for derivation of Eq. (11) and Lambert (2001, Ch.2, 10) for details of the mathematical
method.

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140 T. Tamai

By comparison between (11) and (12), results show that the redistributive taxation
improves wealth equality as

τ
GW − G X = > 0. (13)
2α − 1

The equation presented above also implies that improvements in pre-tax wealth equal-
ity lower the improvement effects of redistributive taxation on wealth equality.

3 Redistributive policy and economic growth

In this section, we present analyses of the interaction between redistributive taxation

and economic growth under an endogenously determined redistributive policy. We
begin our analysis to derive the indirect utility function.13 Using (1), (5) and Lemma 1,
the indirect utility function is
 1−σ σ
{(σ − 1)(1 − τ )A + ρ}Wi∗ + σ τ AW ∗ σ 1
Vi∗ = − ,
(1 − σ )[(σ − 1)(1 − τ )A + ρ] (1 − σ )ρ

where
 −σ σ +1
∂ Vi∗ {(σ − 1)(1 − τ )A + ρ}Wi∗ + σ τ AW ∗ σ AW ∗
=
∂τ [(σ − 1)(1 − τ )A + ρ] 2

×[{(σ − 1)(1 − τ )A + ρ}(1 − wi∗ ) − τ A]. (14)

The (partial) welfare effect of redistributive tax (14) is negatively affected by the
base/average index wi , for which the base wealth can be taken to any level Wi . The
welfare effect of redistribution associated with higher wi (i.e., lower α) becomes
smaller. In the following subsections, using the indirect utility function, we focus on
the Rawlsian redistributive policy and voting equilibrium of redistribution.

3.1 Rawlsian redistributive policy

The form of social welfare function affects the optimal redistributive policy. In this
paper, households with above average income desire a negative tax rate because a
redistributive tax is not productive and a positive tax rate is harmful to their util-
ity. A redistributive taxation is justified only if the government has an objective of
maximizing the utility of the households with below average income.
Therefore, we specifically examine the Rawlsian welfare function within the frame-
work in which the government decides the redistributive tax rate to maximize its
objective, which is min Vi∗ = V0∗ . Regarding the literature on redistributive policy
and income distribution, some studies also adopt the Rawlsian welfare function as

13 The derivation process of the indirect utility function is given in Appendix A.3.

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Redistributive taxation, wealth distribution, and economic growth 141

the purpose of egalitarian government (e.g. Okuno and Yakita 1981).14 Moreover, the
result derived from the Rawlsian welfare function provides the analytical basis for
comparing the result derived from a political determination of redistributive policy.
The optimization problem for the government is formulated as maxτ V0∗ . Solving
this problem, we establish the following proposition related to the optimal redistribu-
tive policy.
Proposition 1 The optimal Rawlsian redistributive tax rate is

ρ + (σ − 1)A A−ρ αA
0 < τ R∗ = < if ρ < .
(α + σ − 1)A A α+σ

Proof From (14),

 
∂ V0∗ (σ − 1)(1 − τ )A + ρ ρ + (σ − 1)A
sign = sign −τA 0⇔τ  .
∂τ α (α + σ − 1)A

If (α + σ − 1)(A − ρ) > ρ + (σ − 1)A, then τ R∗ < (A − ρ)/A holds. Solving

the inequality (α + σ − 1)(A − ρ) > ρ + (σ − 1)A with respect to ρ, we obtain
ρ < α A/(α + σ ). 

A rise in the tax rate provides an increase in the income flow to the household with
the lowest wealth holdings: the positive income effect. However, the higher tax rate
reduces the rate of wealth accumulation and lowers the flow of future income: the
negative growth effect. The government chooses the tax rate such that the positive
welfare effect (by income effect) and the negative one (by growth effect) reach a
balance. Therefore, the Rawlsian tax rate is expected to be positive, with welfare
maximization differing from growth maximization.
This Rawlsian redistributive tax depends on deep parameters: the Pareto index α,
productivity A, the inverse of intertemporal elasticity of substitution σ , and the sub-
jective discount rate ρ. We specifically examine the two parameters α and A because
α is a key parameter involving wealth distribution and because the effects of ρ and
σ can be derived from A. The optimal tax rate is a strictly decreasing function with
respect to both α and A:

∂τ R∗ ρ + (σ − 1)A
=− < 0, (15)
∂α (α + σ − 1)2 A
∂τ R∗ ρ
=− < 0. (16)
∂A (α + σ − 1)A2

Equation (15) is explained as follows. A rise in α increases the minimum/average

index. The gap separating minimum and average wealth becomes smaller. The positive
income effect is weakened by a relative increase in the lowest wealth. Therefore, the

14 As referred in the Introduction, some issues are pointed out regarding the social welfare criterion. See
the detail of these problems for Atkinson and Stiglitz (1980), Ch.11.2, Rehme (1999), the footnote 19, and
Rehme (2003b, p.495).

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142 T. Tamai

Rawlsian tax rate should be decreased by an increase in α. The interpretation of (16)

is explained as follows. A rise in productivity weakens the positive income effect of
redistribution and strengthens the negative growth effect of redistribution because a
rise in A increases the rate of return on wealth, therefore affecting the economic growth
rate.
We now consider the equilibrium growth rate and its properties under a Rawlsian
redistributive taxation. From (5) and Proposition 1, the equilibrium growth rate γ R∗
under the Rawlsian redistributive taxation is
(1 − τ R∗ )A − ρ α A − (α + σ )ρ
γ R∗ = = . (17)
σ (α + σ − 1)σ

Equation (17) shows that the equilibrium growth rate is increasing in the Pareto
index and in productivity:

∂γ R∗ A ∂τ R∗
=− > 0, (18)
∂α σ ∂α
∂γ R∗ α
= > 0. (19)
∂A (α + σ − 1)σ

Thus, (15) and (16) show that a rise in α or A reduces the Rawlsian tax rate. By a
decrease in the tax rate, the net rate of return on the wealth is increased. Consequently,
a rise in the Pareto index or productivity raises the equilibrium growth rate.

3.2 Voting equilibrium

The previous subsection described our investigation of Rawlsian redistributive taxa-

tion. The household with the lowest wealth holdings is expected to prefer the highest
tax rate among all households. The Rawlsian redistributive tax rate will be higher
than the redistributive tax rate in the case in which the government adopts the Ben-
thamian welfare function or the average agent’s welfare because the desired tax rate
is decreasing in wealth holdings. Therefore, conflict exists between classes of wealth.
An analysis of voting equilibrium is useful to provide realistic policy implications.
Following previous studies of economic growth and inequality (e.g., Alesina and
Rodrik 1994; Perotti 1993; Persson and Tabellini 1994), we presume that the redis-
tributive tax rate is decided according to a majority-voting rule. Applying the median
voter theorem to this case, we establish the following proposition.
Proposition 2 A redistributive tax rate chosen by majority voting is

[ρ + (σ − 1)A](1 − wm ∗) A−ρ A
∗
0 < τM = ∗ )σ + w ∗ ]A
< if ρ < ∗ )σ
.
[(1 − wm m A 1 + (1 − wm

Proof By (14), we obtain

∂ Vm∗  ∗
∗
sign = sign {(σ − 1)(1 − τ )A + ρ}(1 − wm ) − τ A  0 ⇔ τ  τM .
∂τ

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Redistributive taxation, wealth distribution, and economic growth 143

It is noteworthy that wm∗ < 1 holds from Lemma 3. When [ρ + (σ − 1)A](1 −

∗
wm ) < (A − ρ)[(1 − wm ∗ )σ + w ∗ ], τ ∗ < (A − ρ)/A holds. Solving the inequality
m M
∗
[ρ + (σ − 1)A](1 − wm ) < (A − ρ)[(1 − wm ∗ )σ + w ∗ ] with respect to ρ, we obtain
m
∗
ρ < A/[1 + (1 − wm )σ ]. 


Proposition 2 shows that the redistributive tax rate by the voting should be positive.
The wealth holdings of the median voter are less than the average wealth holdings in
the economy (Lemma 3). The median voter prefers a positive income transfer, so that
τ > 0 is chosen under majority voting.
The median/average index wm ∗ is increasing in the Pareto index (Lemma 3). Fur-

thermore, the redistributive tax rate by voting is negatively affected by an increase

in wm∗ . Consequently, the redistributive tax rate by voting is decreasing in the Pareto

index:
∗
∂τ M ∗
ρ + (σ − 1)A ∂wm
=− ∗
< 0. (20)
∂α [1 + (σ − 1)(1 − wm )] A ∂α
2

The interpretation of (20) is explained as follows. A gap separating median and aver-
age wealth becomes smaller by an increase in α. Here, (14) shows that a small gap
separating median and average wealth level implies a small benefit of redistribution
for median households because the redistributive transfer depends on a gap separating
the household’s wealth and average level.
Furthermore, the redistributive tax rate in the voting equilibrium is a decreasing
function with respect to productivity:
∗
∂τ M ∗ )ρ
(1 − wm
=− ∗ )]A2
< 0. (21)
∂A [1 + (σ − 1)(1 − wm

The interpretation of (21) is similar to that of (16). Rising productivity weakens the
positive income effect and strengthens the negative growth effect. These effects raise
the relative cost of the redistributive tax. Thus, a rise in the productivity reduces the
equilibrium redistributive tax rate.
Finally, we derive the equilibrium growth rate in the voting equilibrium and char-
acterize it. By (5) and Proposition 2, the growth rate in the voting equilibrium γ M ∗ is

given as the following equations:

∗ )A − ρ
(1 − τ M ∗ )σ ]ρ
∗ A − [1 + (1 − wm
γM = = ∗ )σ + w ∗ ]σ
. (22)
σ [(1 − wm m

Similar to the case of Rawlsian redistributive policy, from (22), an increase in Pareto
index or productivity raises the equilibrium growth rate:
∗
∂γ M ∗
A ∂τ M
=− > 0, (23)
∂α σ ∂α
∗
∂γ M A
= ∗ )σ + w ∗ ]σ
> 0. (24)
∂A [(1 − wm m

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144 T. Tamai

Equations (20) and (21) show that a rise in α or A reduces the redistributive tax rate.
A decrease in the tax rate raises the net rate of return on the wealth. Therefore, an
increase in α or A increases the equilibrium growth rate.

4 Wealth distribution and economic growth

According to analyses presented in the previous section, we arrive at a theoretical

relation between wealth distribution and economic growth. We begin our analysis to
derive the Gini coefficient under redistributive taxation. Using (11), (12) and Propo-
sition 1, we obtain the Gini coefficient of post-tax wealth distribution under Rawlsian
redistributive taxation as

[A + (A − 2ρ)G W ]G W
G R := G X |τ =τ R = . (25)
[1 + (2σ − 1)G W ]A

From (11), (12), and Proposition 2, we obtain the following Gini coefficient of post-tax
wealth distribution in the political economy:

A − (1 − wm∗ )ρ
G M := G X |τ =τ M = G .
∗ )σ + w ∗ ]A W
(26)
[(1 − wm m

Equations (25) and (26) show that the Gini coefficients of post-tax wealth distrib-
ution depend on the Gini coefficients of pre-tax wealth distribution, productivity, the
subjective discount rate, and the elasticity of intertemporal substitution. Comparing
G R and G M , we establish the following relation:

[(σ − 1)A + ρ][(1 − wm ∗ ) − (1 + w ∗ )G ]G

m W W
GR − GM = ∗ )σ + w ∗ ]A
[1 + (2σ − 1)G W ][(1 − wm m
2α[(σ − 1)A + ρ](α − 1)(21/α − 1)G 2W
=− ∗ )σ + w ∗ ]A
< 0 ⇔ GR < GM.
[1 + (2σ − 1)G W ][(1 − wm m
(27)

Equation (13) shows that the Gini coefficient associated with higher tax rate becomes
smaller. Using Proposition 1 and Proposition 2, we obtain
∗ )α][ρ + (σ − 1)A]
[1 − (1 − wm
τR − τM = ∗ )σ + w ∗ ]A
(α + σ − 1)[(1 − wm m
(α − 1)(21/α − 1)[ρ + (σ − 1)A]
= ∗ )σ + w ∗ ]A
> 0 ⇔ τR > τM . (28)
(α + σ − 1)[(1 − wm m

Equation (28) shows that the Rawlsian tax rate is always larger than the tax rate
determined by majority-voting. Therefore, the post-tax inequality under the Rawlsian
redistributive policy is smaller than the post-tax inequality under the redistributive
policy determined by majority-voting. Recall Eq. (13) with (28).

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Redistributive taxation, wealth distribution, and economic growth 145

Using (25) and (26), we establish the relation between post-tax wealth inequality
and productivity as follows.
Proposition 3 In the economy with endogenously determined redistributive taxation,
a productivity rise increases the inequality of post-tax wealth distribution.
Proof Total differentiation of (25) yields

A dG R 2ρG W
= > 0.
GR d A A + (A − 2ρ)G W

However, total differentiation of (26) engenders the following.

A dG M ∗ )ρ
(1 − wm
= ∗ )ρ
>0
GM d A A − (1 − wm



A popular view of the interaction between productivity rising and post-tax wealth
inequality is that the higher productivity decreases wealth inequality. However, Propo-
sition 3 diverges from this popular view. In relation to Proposition 3, Rehme (2011)
reaches a similar result in an endogenous growth model with productive public expen-
ditures and a consideration of two classes, workers and capitalists. The differences in
the results between those found in this paper and those from a previous study include
the redistributive scheme and the setting of wealth distribution. Therefore, Proposi-
tion 3 provides another explanation of the negative effect of productivity rising on
inequality and provides the result that is complementary to those reported by Rehme
(2011).
The key to resolving this puzzle is the presence of redistributive taxation. From (19)
and (24), a productivity rise is understood to reduce the equilibrium redistributive tax
rate. Then, a degree of improvement in wealth inequality is decreased by a decrease
in the equilibrium redistributive tax rate. The productivity rise then increases the
indirect utility of each agent. However, the raised productivity increases the relative
cost of redistributive taxation. This rising productivity induces a fall in the equilibrium
redistributive tax rate. Consequently, rising productivity increases post-tax wealth
inequality.
We now investigate the interaction between pre-tax wealth distribution and eco-
nomic growth under the endogenously determined redistributive policy. Earlier stud-
ies investigated this relation using various approaches explained in the first section of
this paper. However, early theoretical studies did not specifically examine an index
of wealth distribution such as the shape of the distribution function and the Gini
coefficient, although some recent studies have attempted such analyses (e.g., Corneo
and Jeanne 1999; Rehme 2007; Tamai 2009). Therefore, we re-examine the relation
between pre-tax wealth distribution and economic growth by addressing the Gini coef-
ficient. Formally, the theoretical implications are summarized as follows.
Proposition 4 Under endogenously determined redistributive taxation, a negative
partial correlation exists between the inequality of pre-tax wealth and economic
growth.

123
146 T. Tamai

Proof By the definition of the Gini coefficient (11),

1 + GW dα 1
α= ⇒ = − 2 < 0.
2G W dG W 2G W

The equation presented above shows that the Pareto index is decreasing in G Y . Because
∂γ J /∂α > 0, we obtain ∂γ J /∂G W < 0 (J = R, M). 


Poor people, who have far less than average wealth holdings, prefer a positive
transfer of income flow. In contrast, wealthy people, with more wealth than the average
person, oppose wealth redistribution, preferring a negative transfer of income flow. It
is natural to choose a positive tax rate for an egalitarian government with a Rawlsian
welfare function. The median level of wealth is less than the average. Therefore, the
median prefers a redistributive tax. If α is small, i.e., if G W is large, then the median
and egalitarian government will prefer a highly redistributive tax because the gap
separating the median and average or between the minimum and average is large
when α is small. Therefore, high inequality brings about high redistribution through
political dynamics, with a low growth rate through a high tax burden for wealthy
people.
Proposition 4 specifically examines the interaction between pre-tax wealth distrib-
ution and economic growth. However, it is more insightful to investigate the relation
between post-tax wealth distribution and economic growth. Finally, we establish two
propositions related to the interaction between post-tax wealth inequality and eco-
nomic growth.

Proposition 5 In the economy with a Rawlsian redistributive policy, interaction

between post-tax inequality and economic growth shows a downward curve with the
Gini coefficient of post-tax wealth distribution on the vertical axis and the economic
growth rate on the horizontal axis.

Proof Differentiating (25) with respect to G W , we obtain

∂G R A + 2(A − 2ρ)G W + (2σ − 1)(A − 2ρ)G 2W

= > 0.
∂G W [1 + (2σ − 1)G W ]2 A

It is noteworthy that A > 2ρ is necessary to assure γ R∗ > 0 ∀ G W . Because

∂γ R /∂G W = (∂γ R /∂α) · (dα/dG W ) < 0, ∂γ R∗ /∂G R < 0 holds. 


The relation between G W and G R is not monotonic because an increase in pre-tax

inequality exerts two opposite effects on the post-tax inequality index. An increase
in G W directly increases the post-tax Gini for a given tax rate, but it simultaneously
increases the redistributive tax rate and thus, indirectly decreases the post-tax Gini.
Under an egalitarian government that has a Rawlsian welfare function, the positive
direct effect on the post-tax Gini is dominant over the negative indirect effect on the
post-tax Gini. Therefore, the post-tax Gini G R positively correlates with the pre-tax
Gini G W . Combining this positive relation between G W and G R with Proposition 4
and its interpretation, the negative relation between post-tax inequality and economic

123
Redistributive taxation, wealth distribution, and economic growth 147

growth is established in a similar way as the relation between pre-tax inequality and
economic growth.
However, the relation between economic growth and post-tax Gini (under the redis-
tributive tax determined by majority-voting) differs from Proposition 5. Formally, it
is summarized as follows.

Proposition 6 In a voting equilibrium, interaction between post-tax inequality and

economic growth shows a downward or locally inverted-U shaped curve with the Gini
coefficient on the vertical axis and economic growth rate on the horizontal axis.

Proof See Appendix A.4. 



In contrast to the case of a Rawlsian redistributive policy, the relation between post-
tax inequality and economic growth in the voting equilibrium exhibits nonlinearity
within specific conditions. The key determinant of this nonlinear relation is the relation
between the pre-tax and post-tax Gini coefficient. As explained in the interpretation
of Proposition 5, an increase in pre-tax inequality exerts a positive direct effect on
the post-tax Gini as well as a negative indirect effect on the post-tax Gini through an
endogenously determined redistributive tax.
In a voting equilibrium, there exists not only a phase in which the positive direct
effect dominates the negative indirect effect but also a phase in which the negative
indirect effect dominates the positive direct effect. Therefore, in the latter phase, an
increase in pre-tax inequality decreases post-tax inequality through an endogenous
redistributive transfer. Considering this relation and Proposition 4, the relation between
the post-tax inequality and economic growth is captured by the inverted-U curve.
The result of Proposition 6 differs from early theoretical studies of the relation
between inequality and economic growth (e.g., Alesina and Rodrik 1994; Galor and
Zeira 1993; Perotti 1993; Persson and Tabellini 1994). In this paper, a change in the
inequality index exerts different effects on the relative position of households according
to their respective wealth classes. Therefore, the post-tax inequality index under an
endogenous tax rate is affected non-monotonically by pre-tax inequality. This channel
is necessary to derive Proposition 6 (and Proposition 5).
In the sense that the relation between the inequality is associated non-monotonically
with economic growth and vice versa, Proposition 6 provides a result similar to
those presented by some recent studies (e.g., Corneo and Jeanne 1999; Rehme 2007;
Tamai 2009). However, these recent studies mainly emphasize the study of the pre-tax
inequality index or the economy without any redistributive transfer. This paper pro-
vides another insight that is complementary to those reported from previous studies.

5 Conclusion

This paper presented an endogenous growth model with heterogeneous households

and redistributive taxation. In the paper, we examined the relation among redistribu-
tive taxation, wealth distribution, and economic growth. The most important results
demonstrate that rising productivity increases post-tax inequality but also contributes
to the acceleration of income rising. Furthermore, this paper showed that there exists

123
148 T. Tamai

a local inverted-U relation between inequality and economic growth in a voting equi-
librium.
The conventional view of inequality and growth is that raised productivity decreases
inequality through rising incomes. In contrast, analyses presented herein imply that
a rise in the growth rate resulting from rising productivity cannot improve wealth
equality. As reported by the OECD (2008), economic growth in recent years has
benefited rich people more than poor people. The gap separating the rich from the
poor has also widened. The implications of this paper might provide a theoretical
explanation of the recent empirical evidence described above.
The inverted-U relation between inequality and economic growth might be a natural
explanation for complicated issues of empirical evidence related to the link between
inequality and growth. The endogenous redistributive policy and its decision-making
process play important roles in determining the relation between wealth inequality
and economic growth. In this paper, majority voting is necessary for the generation of
an inverted-U relation. These results also imply that the structural change in pre-tax
wealth distribution in a voting equilibrium influences the estimation of the relation
between wealth inequality and economic growth.
Finally, we consider to the direction of future research. In this paper, we addressed
income transfer financed by income tax. However, a redistributive policy can assume
various forms in reality, such as public investment in infrastructure and public services
such as public education, medical care, and the pension system. Therefore, it will be
interesting to examine whether public investment financed by income tax engenders
a higher or lower inequality and growth rate in the same way. Furthermore, it might
be insightful to analyze the relation between wealth distribution and economic growth
under public investment. These topics will be addressed in future investigations.

Appendix A

A.1 Proof of Lemma 1

Using Eqs. (5)–(7), the logarithmic derivation of ci , c, and wi with respect to time
gives

ċi Ċi Ẇi (1 − τ )(σ − 1)A + ρ τA

= − =− + ci − , (29)
ci Ci Wi σ wi
ċ Ċ Ẇ (1 − σ − τ )A − ρ
= − = + c, (30)
c C W σ
ẇi Ẇi Ẇ τA
= − = −τ A − ci + + c. (31)
wi Wi W wi

In the balanced growth equilibrium, the equations above are

(1 − τ )(σ − 1)A + ρ τA
0=− + ci − , (32)
σ wi

123
Redistributive taxation, wealth distribution, and economic growth 149

(1 − σ − τ )A − ρ
0= + c, (33)
σ
τA
0 = −τ A − ci + + c. (34)
wi

By (33), we obtain

(σ − 1 + τ )A + ρ
c∗ = . (35)
σ

Equation (35) shows that the stationary value of c is determined uniquely. The sta-
tionary point c∗ is unstable. Therefore, the value of c jumps from its initial value to
c∗ because Eq. (30) shows that the dynamic equation of c has a positive eigenvalue;
∂ ċ/∂c|c=c∗ > 0. Using (35) and (32) or (34), we arrive at

(1 − τ )(σ − 1)A + ρ τA
ci = + . (36)
σ wi

Equation (36) shows that ci depends on wi .

We now consider the dynamic motion of wi to investigate the existence of a sta-
tionary value of wi . Inserting c∗ into c in (31), we have

ẇi τ A (σ − 1 + τ )A + ρ
= −τ A − ci + +
wi wi σ
(1 − τ )(σ − 1)A + ρ τA
= − ci + . (37)
σ wi

By (37)

ċi ẇi (1 − τ )(σ − 1)A + ρ τA

=− =− + ci − . (38)
ci wi σ wi

For wi at t = 0 (wi∗ = wi (0)), ci should be chosen as (36):

(1 − τ )(σ − 1)A + ρ τA
ci∗ = + ∗.
σ wi

Therefore, there exists a unique balanced growth equilibrium and the economy is
always in the balanced growth equilibrium.

A.2 Derivation of Eqs. (11) and (12)

The Lorenz curve shows the quantile share information for a given income distribution.
Let p as a cumulative share of people from the lowest to the highest incomes. For given

123
150 T. Tamai

income level Y , the cumulative distribution function gives a unique value p such as
p = F(Y ). The Lorenz curve can be defined as
 Y  Y
1 1
p = F(Y ) ⇒ L( p) = Wi d F(Wi ) = Wi f (Wi )dWi . (39)
W W0 W W0

Note that F (·) = f (·) where f (·) is the probability density function. Using the chain
rule, we obtain the derivative of Eq. (39):

dL d L dWi Wi
= = . (40)
dp dWi dp W
1
The definition of the Gini coefficient is G W = 1 − 2 0 Ldp. Using (39) and (40), we
have
 1
GW = 1 − 2 Ldp
0
 1  ∞
dL 2 1
=2 p dp − 1 = Wi F(Wi ) f (Wi )dWi − 1 = .
0 dp W W0 2α − 1

Note that we apply integration by part to the first line of above equation. In the same
way as Eq. (39), we define L X as
 Y
1
p = F(Y ) ⇒ L X = [Wi − T (Wi )]d F(Wi )
W W0
 Y
1
= [Wi − T (Wi )] f (Wi )dWi . (41)
W W0

Then, we have

dLX d L X dWi (1 − τ )Wi − τ W

= = . (42)
dp dWi dp W

We can use the same way as derivation of G W . Therefore, we obtain

 1
1 dL 
X
GX = 1 − 2 L X dp = 2 p dp − 1
dp
 ∞0 0
2 1−τ
= [(1 − τ )Wi + τ W ]F(Wi ) f (Wi )dWi − 1 = .
W W0 2α − 1

A.3 Derivation of the indirect utility function

Because the economy is in a balanced growth equilibrium (Lemma 1), consumption is

growing at a constant growth rate given as (5). Therefore, household i’s consumption
at time t becomes

123
Redistributive taxation, wealth distribution, and economic growth 151

Ci∗ (t) = Ci∗ (0) exp(γ t) = ci∗ (0)Wi∗ (0) exp(γ t), (43)

where γ := [(1 − τ )A − ρ]/σ . Inserting (43) into (1), we obtain


Ci∗ (t)1−σ − 1
∞
Vi∗ = exp(−ρt)dt
0 1−σ
 ∞  ∞ 
1 ∗ ∗
= {ci (0)Wi (0)} 1−σ
exp{−((σ − 1)γ +ρ)t}dt − exp(−ρt)dt
1−σ 0 0


1 {ci∗ (0)Wi∗ (0)}1−σ 1
= +
1−σ (σ − 1)γ + ρ ρ
 1−σ σ
{(σ − 1)(1 − τ )A + ρ}Wi∗ + σ τ AW ∗ σ 1
= − .
(1 − σ )[(σ − 1)(1 − τ )A + ρ] (1 − σ )ρ

A.4 Proof of Proposition 3

Total differentiation of (26) gives

 ∗  G
∂G M (σ − 1)A + ρ dwm M
= 1− ∗ )ρ}{(1 − w ∗ )σ + w ∗ } dα
.
∂G W 2G W {A − (1 − wm m m G W

Here, G W → 1 ⇔ α → 1 ⇔ wm ∗ = 0 and G ∗
W → 0 ⇔ α → ∞ ⇔ wm = 1.
Calculating the limiting values of ∂G M /∂G W , one obtains
 ∗ )ρ ∗ 
∂G M A − (1 − wm {(σ − 1)A + ρ}(2α − 1) dwm
lim = lim ∗ )σ + w ∗ }A
− ∗ )σ + w ∗ }2 A dα
G W →0 ∂G W α→∞ {(1 − wm m 2{(1 − wm m
= 1,

and
∂G M (1 + σ )ρ − A
lim =− > 0.
G W →1 ∂G W σ2A

The results presented above show that G M is monotonically increasing in G W , or G M

is locally decreasing in G W , although G M is increasing in G W around both ends. By
Proposition 4, ∂G W /∂γ < 0 holds. Therefore, the relation between the inequality and
economic growth represents a downward or locally inverted-U shaped curve with the
Gini coefficient on the vertical axis and economic growth rate on horizontal axis.

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