Lifetime equity and dynamic efficiency on the balanced growth path

The analysis of the relationship between equity and efficiency in the presence of ability differential and in the absence of the realistic scheme to impose the ideal lump-sum tax has been worked out by Mirrlees in his pioneering paper (197 1). Adopting the restriction that the tax formula is linear, Sheshinski ( 197 1) has made the problem more tractable and more transparent. But the latter author has neglected the effect of the diminishing returns to labor, and both of the authors have abstracted from the interaction between working decisions and saving decisions. On the other hand, Diamond ( 1965), has introduced the lifecycle saving theory into a growth model, which has given deeper insight into the dynamic efficiency and policy implications in a growing economy. But this approach has abstracted from the supply decision of labor. This paper is an attempt to combine these two lines of approach, and to clarify the relationship between the labor incentives and the efficiency in dynamic as well as static sence. Just as Diamond (1970) has analyzed the question of optimal commodity taxation in,the context of a growth setting, we analyze the optimal taxation in the context of growth. In other words, we explore the trade-off between the lifetime equity (Atkinson, 1971) and the dynamic efficiency. Assuming that