Non-cooperative households and the size and composition of public expenditure

This paper presents a model in which the composition and size of public spending are determined through a political process. Agents differ in wage rates, and live in households positively sorted by wage; household production benefits both partners but the partners interact noncooperatively, hence the laissez-faire equilibrium is inefficient. There are three policy tools, a labour income tax rate, a cash transfer and an in-kind transfer. The latter can be combined with household production to generate a household public good. All agents agree on some form of public intervention to remedy the inefficiency, but low-wagers prefer high taxes and cash transfers, while high-wagers prefer low taxes and in-kind provision. Under the empirically plausible assumption that voting participation is positively correlated with income, the equilibrium policy will be of the sort preferred by voters with above-mean income. This effect is accentuated by increased inequality.