Rules, stability, and growth

This paper examines two systems of fiscal redistribution in the context of a growing economy subject to unexpected shocks, rules and discretion. Under the former system, the tax system is in place and is known to households contemplating investment decisions. Under the second, redistribution is decided upon only after the investment decisions have been made. I find that rules always lead to faster capital accumulation and growth, but political support for them is only likely to occur in a stable economy. Income inequality adversely affects the likelihood of adopting rules, especially so in an unstable economy.