Optimal public good provision in the Ramsey tax model. A generalization (Q1814094)

Consider a representative consumer with nested utility function \(u(w(C,H),G)\) where \(H\) is leisure and \(C/G\) the consumption of a private/public good. In Ramsey's tradition indirect utility is maximized subject to a tax revenue constraint. \(G\) is called first-best if lump-sum taxes are available; it is called second-best if the only available tax is a commodity tax on \(C\). The author proves that the second-best supply of \(G\) remains below the first-best level if \(w(C,H)\) displays constant elasticity of substitution \(\sigma\). (For \(\sigma<1\) a further mild condition has to be added.) The proposition generalizes the results of \textit{A. B. Atkinson} and \textit{N. H. Stern} [Rev. Econ. Stud. 41, 119-128 (1974)] who restricted their attention to the case of Cobb-Douglas utilities \((\sigma=1)\).