Privatization and Optimal Taxation in a Two-Sector Transitive Economy

Interrelationship between optimal fiscal policy and property structure is analyzed in the general equilibrium model with government playing Ramsey planner role and private and public sectors responding rationally to the government actions. In first best allocations with 100% profit taxation and neoclassical production functions, mixed type equilibrium with coexistence of public and private sector results in higher representative consumer utility level than equilibrium with one private sector (firm) and equilibrium with two private sectors (firms) provides higher utility than mixed type equilibrium: privatization or restructuring of the state sector is efficient and complete shutting down of the state sector is inefficient. Optimal first best taxation consists in taxing away all rents associated with positive production externality of public goods or public infrastructure investments