AN OPTIMAL TAX TREATMENT OF LEVIATHAN*

This paper constructs a model in which taxation and public expenditure decisions are made by two decision makers: a “benevolent planner,” who treats all consumers equally in the measurement of welfare; and a “Leviathan planner,” who places more weight on the utilities of “favored consumers.” The benevolent planner can restrict the Leviathan planner's power to tax, but cannot control the allocation of expenditures between desirable public goods and income transfers to favored consumers. Several types of tax restrictions are shown to be welfare-improving from the benevolent planner's viewpoint. These restrictions include a reduction in the size of the tax base, although administrative costs already prevent the Leviathan planner from taxing all commodities.     

Dress to impress: Brands as status symbols

We analyzed the market for indivisible, pure status goods. Firms produce and sell different brands of pure status goods to a population that is willing to signal individual abilities to potential matches in another population. Individual status is determined by the most expensive status good one has. There is a stratified equilibrium with a finite number of brands. Under constant tax rates, a monopoly sells different brands to social classes of equal measure, while in contestable markets, social classes have decreasing measures. Under optimal taxation, contestable markets have progressive tax rates, while a monopoly faces an adequate flat tax rate to all brands. In contrast with extant literature, subsidies may be socially optimal, depending on the parameters, in both market structures.     

Optimal Tax Policy, Market Imperfections, and Environmental Externalities in a Dynamic Optimizing Macro Model

This paper develops a dynamic real business cycle model that highlights pollution externalities (on welfare and production) and market imperfections and uses it to determine the socially optimal tax policy that encompasses labor income, capital income, and emission taxes. We show that the optimal tax on capital and labor income only addresses the production inefficiency (and is time-invariant), while the tax on the environmental externalities affects both the production inefficiency and the environmental spillovers (and is time-varying). More interestingly, the socially optimal emission tax will be characterized by a Keynesian-like stabilizer that is designed to mitigate business cycle fluctuations, i.e., that will stimulate the economy with a lower emission tax during recessions. In a positive analysis, we show that the beneficial effects arising from pollution taxation will become larger the greater is the degree of the firms' monopoly power. In addition, a triple dividend in terms of improving environmental quality and increasing employment and firms' profit can be simultaneously realized if the environmental production externality is more significant and if the elasticity of intertemporal substitution in consumption is relatively small.     

Tax incentives in fiscal federalism: an integrated perspective

Abstract Models of fiscal federalism rarely account for the efficiency implications of intergovernmental fiscal ties for federal tax policy. This paper shows that fiscal institutions such that federal tax deductibility, vertical revenue‐sharing, and fiscal equalization (being common features of existing federations) encourage local taxation, but may discourage federal taxation. Furthermore, the structure of public spending is skewed towards local spending. We also show that, when considering Leviathan governments, fiscal institutions reduce confiscatory taxation by the federal government. The result is contrary to the Cartelization Hypothesis ( Brennan and Buchanan 1980 ). Finally, we characterize the efficient design of intergovernmental fiscal ties.     

Optimal Emissions Taxation under Imperfect Competition in a Durable Good Industry

This paper investigates optimal emissions taxation under imperfect competition in a durable good industry where products are sold (instead of rented). As a benchmark, attention is paid to the special case of monopoly with exogenously given product durability. In line with previous literature, the optimal emission tax in this benchmark model falls short of marginal damage (underinternalization). Extending the benchmark model either to the case of an oligopolistic market structure and/or to the case of endogenous product durability then provides two cases in which the optimal emission tax overinternalizes marginal damage.     

Optimal redistributive taxation with both extensive and intensive responses

We study optimal income taxation when labor supply reacts along the intensive and extensive margins. Individuals are heterogeneous across two unobserved dimensions: their skill and disutility of participation. We develop a new method to analytically derive conditions under which optimal marginal tax rates are non-negative everywhere. It is typically optimal to provide a distinct level of transfer to the non-employed and to workers with negligible earnings. Numerical simulations illustrate these properties for the US. We also apply our method to sign output distortions in other adverse selection frameworks with random participation, namely the monopoly nonlinear pricing and the regulatory monopoly problems.     

Market structure and casino taxation in tourist resorts

This article examines the association of tax effects with market structure for casino gaming. We show that if market structure is uncompetitive, much of casino taxation falls on tourists whose demand is inelastic relative to supply. The tax is likely to be efficient under strong external demand if imposed on oligopoly casinos with a monopoly location in a cross-border market. The likelihood of economically ‘good’ taxation is greater under oligopoly than under competition but lower than under monopoly. Casino taxes should be lowered in a more competitive market with weaker external demand. Our prediction is consistent with the evidence found from casino tourism development in Macao with ‘high’ gambling taxes.     

Labor supply,uncertainty, and efficient taxation

We analyze the structure of an optimal linear income tax when workers are uncertain about their wages at the time they choose their labor supplies. Background for the normative analysis is provided by an outline of the positive theory of wage taxation and labor supply under uncertainty. It is then shown that given imperfect information about wages, lump-sum taxation is not necessarily efficient. Because a wage tax reduces the riskiness of wage income, some combination of a lump-sum tax and a wage tax generally will minimize excess burden.     

A model of benefit and tax share discrimination by a monopoly bureau

This paper integrates the theory of demand for publicly provided goods in a democracy with the theory of bureaucratic supply in order to develop a model of benefit share and tax share discrimination by a monopoly bureau. The demand side of the political market is based on a utility maximizing model of voter behavior with voters' demands aggregated through a majority voting process. The supply side of the political market is based on a budget maximizing model of bureaucratic behavior. The bureau is assumed to possess monopoly power as a result of either its control over benefit shares or tax shares and, hence, implicit tax prices or its control over budget proposals placed on the agenda. Different degrees of discrimination are examined and in each case the equilibrium of the model yields a total budget for the bureau as well as distributions of benefit shares or tax shares across voters.     

SOME EMPIRICAL EVIDENCE ON DEMAND SYSTEM* AND OPTIMAL COMMODITY TAXATION

We have two major tasks in this paper. The first is to obtain a reasonable estimate of the Japanese demand system, which includes leisure, income and commodity choices. The second is to compute and evaluate the optimal tax equilibrium. The estimation result, based on the Almost Ideal Demand System, is found to be consistent with the microeconomic theory. We evaluate the optimal commodity tax structure by calculating the equilibria under lump‐sum, optimal commodity and uniform commodity taxation schemes. The deadweight losses under uniform taxation are very small, and the optimal commodity tax rates are strikingly close to uniform.     

Optimal income taxation when couples have endogenous bargaining power

This study examines the optimal income taxation for a two-earner household, where the couple bargains over their private goods consumption and time allocation between work and leisure. In the model, bargaining power is determined endogenously by the income gap between the two earners. Conventional studies have shown that the higher income tax rate should be imposed on the individual with the smaller wage elasticity, typically the individual with the higher productivity. In contrast to conventional argument, this study shows that the optimal tax rate on the household member with the higher productivity is lower than that of the individual with the lower productivity if the required tax revenue is relatively small and the influence of the gender income gap on the power balance of the couple is moderate. This is because such a tax structure encourages the labor supply of the individual with the higher productivity to mitigate the decrease in the household’s consumption induced by income taxation.     

Optimal taxation in a spatial economy with transport costs

Drawing on both optimal tax theory and residential location theory, this paper investigates optimal first- and second-best taxation in a spatial urban economy with transport costs. The introduction of space and transport costs into optimal tax theory creates a number of complications. Most importantly, spatial efficiency, as well as the more familiar forms of efficiency, needs to be considered in determining the optimal set of taxes. The results are of particular interest in the context of local public finance. The paper provides a method for determining the shadow rent on land in the presence of distortionary taxation, and also a framework for analyzing other distortions in a spatial economy.     

On the undesirability of commodity taxation even when income taxation is not optimal

An important result due to Atkinson and Stiglitz (1976) [Atkinson, A.B., Stiglitz, J.E., 1976. The design of tax structure: Direct versus indirect taxation. Journal of Public Economics 6, 55–75.] is that differential commodity taxation is not optimal in the presence of an optimal nonlinear income tax (given weak separability of utility between labor and all consumption goods). This article demonstrates that this conclusion holds regardless of whether the income tax is optimal. In particular, given any commodity tax and income tax system, differential commodity taxation can be eliminated in a manner that results in a Pareto improvement. Also, differential commodity taxation can be proportionally reduced so as to generate a Pareto improvement. In addition, for commodity tax reforms that neither eliminate nor proportionally reduce differential taxation, a simple efficiency condition is offered for determining whether a Pareto improvement is possible.     

On Optimal Commodity Taxes When Consumption Is Time Consuming

This paper studies the problem of optimal taxation of commodities when consumption is a time‐consuming activity. This is done under two distinct preference separability assumptions: between goods and labor supply, and between goods and leisure. It argues that with the labor separability, the traditional uniform taxation results of optimal tax theory continue to hold. With leisure separability, on the other hand, consumption time is a major ingredient of optimal tax rates. However, the relationship between consumption time and optimal tax rates depends crucially on the representation of the economy. In representative consumer economies, time differences determine the pattern of optimal tax rates so that goods whose consumption take more time are subjected to higher tax rates. When individuals have different earning abilities, redistributive, incentive, and efficiency considerations also come into play resulting in a complex relationship. The paper derives formulas for optimal commodity taxes in this case on the basis of three different tax structures: linear commodity taxes in combination with linear and nonlinear income taxes, and nonlinear commodity taxes in combination with nonlinear income taxes.     

Asymptotic Marginal Tax Rate of Individual Income Tax in China

This paper examines the asymptotic marginal rate of individual income tax which maximizes China's social welfare through numerical simulation based on the elasticity of China's labor supply, income distribution and the social objectives of redistribution in accordance with the optimal direct taxation theory. Taking advantage of the optimal direct taxation model with consideration of the income effect, it comes to the conclusion that combined with China's reality, the asymptotic marginal rate of individual labor income tax in China should be between 35% and 40%.     

What Should Optimal Income Taxes Smooth?

According to the theory of tax smoothing, income tax rates should be kept constant so as to minimize the distortionary costs of taxation. By explicitly considering how labor supply is distorted by income taxes in a fully specified intertemporal model, we find that the optimal income tax policy should smoothen leisure. In the case of varying income (productivity changes) this is attained by a pro‐cyclical (progressive) tax rate.     

Is the Optimal Labor Income Tax Progressive in a Unionized Economy?*

This paper concerns optimal nonlinear labor income taxation in an economy with union wage setting and endogenous hours of work. The purpose is to study the determinants of tax progression. We show that the optimal degree of progression of the labor income tax depends on the extent to which the government can influence the wage rate via tax policy as well as on its ability to redistribute income across individuals. In addition, the argument for progressive labor income taxation depends on whether hours of work are chosen by the employed themselves or the union.     

Optimal taxation in a monetary economy with financial intrmediaries

The problem of optimal taxation when the government must levy distorting taxes to meet its revenue needs is considered for a monetary economy with financial intermediaries. In contrast to most other studies of optimal taxation in a monetary economy, money is treated as an intermediate good which is held because doing so economizes on the scarce resources that must be devoted to the exchange process. Attention is focused on the roles of the inflation tax, reserve requirements, and deposit taxes. The key result is that revenue considerations do not justify taxing cash and deposits. That is, the optimal tax structure calls for adopting the optimum quantity of money rule and setting deposit taxes to zero. When the optimal tax structure is in place, reserve requirements turn out to be irrelevant from both the fiscal and welfare perspectives.     

Budget Balancedness and Optimal Income Taxation

We make two contributions to the theory of optimal income taxation. First, assuming conditions sufficient for existence of a Pareto optimal income tax and public goods mechanism, we show that if agents' preferences satisfy an extended notion of single crossing called capacity constrained single crossing, then there exists a Pareto optimal income tax and public goods mechanism that is budget balancing. Second, we show that, even without capacity constrained single crossing, existence of a budget balancing Pareto optimal income tax and public goods mechanism is guaranteed if the set of agent types contains no atoms.     

A Characteristics Approach to Optimal Taxation: Line Drawing and Tax‐Driven Product Innovation

Real‐world tax legislation assigns goods to different categories of tax rates on the basis of observable characteristics, allowing the tax system to handle a constantly evolving set of available goods. We recast the theory of optimal taxation in the language of characteristics, and we show how to optimally draw lines that delineate tax‐rate regimes. Such lines are associated with notches in tax liability as a function of characteristics, creating incentives to introduce goods with new combinations of characteristics in order to reduce tax liability. With a restricted set of tax instruments, such notches are in general part of the second‐best optimal tax system.