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Taxation and Fiscal Policy

Paper Session

Saturday, Jan. 5, 2019 2:30 PM - 4:30 PM

Atlanta Marriott Marquis, L503
Hosted By: Econometric Society
  • Chair: Sebastian Dyrda, University of Toronto

Optimal Income Taxation with Endogenous Prices

Alexey Kushnir
,
Carnegie Mellon University
Robertas Zubrickas
,
University of Bath

Abstract

We study an optimal income taxation problem in a Mirrleesian setting with endogenous product prices and positive firm profits. In the presence of a progressive distribution of firm profit shares or foreign ownership, we show that the public authority favors lower equilibrium prices in competitive markets, which leads to more progressive taxation in the optimum. Using a calibrated model of the U.S. housing market, we quantify the price effect and show that it adds more than 4 percentage points on average to marginal income tax rates. In oligopolistic markets, market power creates an additional non-competitive effect that exerts downward pressure on optimal tax rates. Using the U.S. housing model, we show that, as the market structure varies, changes in the price effect and the non-competitive effect cancel each other out leading to a stable prediction of optimal income tax policy across markets. We also show that the price and non-competitive effects persist in the presence of commodity taxation.

Optimal Income Taxation with Labor Supply Responses at Two Margins: When Is an Earned Income Tax Credit Optimal?

Emanuel Hansen
,
University of Cologne

Abstract

This paper studies optimal non-linear income taxation in an empirically plausible model with labor supply responses at the intensive (hours, effort) and extensive (participation) margins. It shows that an Earned Income Tax Credit with negative marginal taxes and negative participation taxes at the bottom is optimal if, first, social concerns for redistribution from the poor to the very poor are sufficiently weak and, second, participation elasticities are non-increasing along the income distribution. This result is driven by a previously neglected trade-off between labor supply distortions at both margins, i.e., two aspects of efficiency. Numerical simulations suggest that a large expansion of the EITC for childless workers in the US could be welfare-increasing.

On the use of Tax Perturbation Methods: A Cautionary Tale

Cassiano Alves
,
Northwestern University
Carlos da Costa
,
Getulio Vargas Foundation (FGV/EPGE)
Humberto Moreira
,
Getulio Vargas Foundation (FGV/EPGE)

Abstract

We study optimal income taxation in a class of static, one-dimensional Mirleesian
economies where preferences do not satisfy the Spence-Mirrlees condition
(SMC). We characterize necessary conditions for the optimal taxation using
a structural mechanism design approach based on type assignment functions.
Because the SMC is violated, local incentive constraints no longer suffice for
implementability, and an additional set of global incentive constraints must be
explicitly taken into account. When these global constraints bind, they create
a tension between infra-marginal types whose ICs are not handled by any local
approach. Local perturbations (or small reforms) of the optimal tax schedule
may have global (first-order) impacts on welfare, thus invalidating some of the
assumptions underlying local variational methods.

Optimal Taxation of Inheritance and Retirement Savings

Yena Park
,
University of Rochester

Abstract

We study optimal inheritance tax in a model where the bequest and saving motives are driven by the differences in medical expenses, mortality risk, and patience, as well as heterogeneous productivity. We show that the correlations between these factors and the earning productivities are the key for the marginal inheritance taxation — the sign and the magnitude of the tax. Positive inheritance taxes are optimal when rich people face higher medical expenses and are more patient. In the presence of heterogeneous mortality risk, optimal taxation of inheritance and retirement savings should be designed jointly. Longer life expectancy of productive workers will increase the tax on retirement savings and decrease the tax on inherited wealth. Higher patience for more productive people could be another reason for taxing inherited wealth.

Optimal Fiscal Policy in a Model with Uninsurable Idiosyncratic Shocks

Sebastian Dyrda
,
University of Toronto
Marcelo Pedroni
,
University of Amsterdam

Abstract

In a standard incomplete markets model a Ramsey planner chooses time-varying
paths of proportional capital and labor income taxes, lump-sum transfers (or taxes),
and government debt. Distortive taxes reduce the variance cross-sectionally and over
time of after-tax income, improving welfare for redistributive and insurance motives,
which we quantify. Optimal capital income tax is higher than labor income tax in the
long run; it provides insurance more efficiently. The government accumulates assets
providing redistribution via general equilibrium price effects. The planner’s degree of
inequality aversion only affects policy in the short run. Ignoring transition leads to
significant welfare losses.
Discussant(s)
Sebastian Dyrda
,
University of Toronto
JEL Classifications
  • H2 - Taxation, Subsidies, and Revenue
  • H3 - Fiscal Policies and Behavior of Economic Agents