DP41 | Public Sector Shadow Prices in Distorted General Equilibrium Models


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In a closed competitive general equilibrium constant returns economy, consumer taxes separate consumer and producer prices of goods. Shadow prices appropriate for the evaluation of public sector projects are derived on alternative assumptions about what happens to taxes as public production changes. In some examples, equilibrium prices and shadow prices are computed, and these computations suggest both that shadow prices are quite sensitive to the precise specification of pre-existing distortions and also that partial equilibrium intuition about the relation between shadow prices and market prices may be seriously misleading. The possibility of extending the analysis to more realistic examples and models is discussed.