Revisiting Uzawa–Lucas with public human capital spending and productivity heterogeneity

Purpose This paper aims to study the effects of public human capital spending on growth under the presence of financial frictions and productivity heterogeneity. In addition, this paper derives and discusses growth-maximizing policy. Design/methodology/approach This paper constructs a tractable human capital–based growth model. There a continuum of heterogeneous entrepreneurs who own private firms, accumulate personal wealth and face collateral borrowing constraints. The representative worker accumulates human capital by using his own efforts, the existing human capital stock and human capital–related public services. The government finances public spending by taxing capital income. This paper then focuses its analysis on the balanced growth path equilibrium of the economy model. Findings This paper finds that public human capital spending financed by capital income taxation yields strictly higher growth than when the spending is absent. In addition, it shows that the growth-maximizing capital income tax rate is higher when the idiosyncratic firm productivity distribution is more heavy tailed. Originality/value This paper embraces and then explores the effects of productivity heterogeneity and financial frictions into an otherwise conventional human capital–based endogenous growth model. This paper also differs from the conventional endogenous growth framework by incorporating the productive role of public services in the process of accumulating human capital. Therefore, it can address the effects of public spending on growth.