Goods Provision in a Borrowing-constrained Economy

This paper introduces an overlapping-generations model with earnings hetero-geneity and borrowing constraints. The labor income tax and the allocation of tax revenue across social security and forward intergenerational public goods are determined in a bidimensional majoritarian voting game played by successive gen-erations. The political equilibrium is characterized by an ends-against-the-middle equilibrium where low- and high-income individuals form a coalition in favor of a low tax rate and less social security while middle-income individuals favor a high tax rate and greater social security. Government spending then shifts from social security to public goods provision if higher wage inequality is associated with the borrowing constraint and a low interest-rate elasticity of consumption