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Discuss the positive or normative model of fiscal policy

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Reference no: EM131845424

Problem

If the tax rate follows a random walk (and if the variance of its innovations is bounded from below by a strictly positive number), then with probability 1 it will eventually exceed 100 percent or be negative. Does this observation suggest that the tax-smoothing model with quadratic distortion costs is not useful as either a positive or normative model of fiscal policy, since it has an implication that is both clearly incorrect as a description of the world and clearly undesirable as a prescription for policy? Explain your answer briefly.

Reference no: EM131845424

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