Price Subsidies Versus Public Provision

The paper investigates whether price subsidization or public provision of a private good, x, is the more efficient redistributional instrument in addition to an optimal nonlinear income tax. The identity of high and low skill individuals is assumed to be private information generating a self-selection constraint. If the high skill person's consumption of x is sufficiently large relative to that of the low skill person, public provision is the better scheme. With the opposite situation the price subsidy may be the preferred instrument. The paper also characterizes the mixed scheme where all the instruments are used optimally. The mixed scheme can be degenerate with only public provision being used in addition to the income tax. At an optimum where both instruments are used, good x is subsidized, the low skill person is supplementing and the high skill person is forced to overconsume.     

Disability insurance and optimal income taxation

This paper studies the design of disability insurance scheme when agents differ in their privately known productivity. We extend the Diamond and Mirrlees (1978) two period model to allow for agents differing ex-ante in their productivity and characterize the optimal nonlinear tax transfer that maximizes a utilitarian welfare function when per-period earnings and age are observable while individuals’ productivity and health status are not observable. We show that the induced tax/benefit scheme should exhibit a marginal income tax that decreases with age for some agents. A marginal subsidy on the young high productive income may be desirable. While the disability scheme always involves the old low productive agents to be indifferent between working and claiming disability benefits, this result is not always true for the old high productive agents. JEL Classification H55 · H23 · E62     

Protecting the Vulnerable: the Tradeoff between Risk Reduction and Public Insurance

In a risky world should governments provide public goods thatreduce risk or compensate the victims of bad outcomes throughsocial insurance? This article examines a basic question indesigning social protection policies: how should a governmentallocate a fixed budget between these two activities? In thepresence of income and risk heterogeneities a simple publicinsurance scheme that pays a fixed benefit to all householdsthat suffer a negative shock is an effective redistributionalinstrument of public policy. This is true even when a well functioningprivate insurance market exists, and so the role of public insuranceis not to correct a market failure. In fact, the existence ofa private insurance market means that the public system hasdesirable targeting properties—all but the poor and high-risktake up private insurance. The provision of public goods thatreduce risk for all should therefore be complemented with publicinsurance that (automatically) benefits those who are especiallyvulnerable.     

Optimal taxation and public provision for poverty reduction

The existing literature on optimal taxation typically assumes there exists a capacity to implement complex tax schemes, which is not necessarily the case for many developing countries. We examine the determinants of optimal redistributive policies in the context of a developing country that can only implement linear tax policies due to administrative reasons. Further, the reduction of poverty is typically the expressed goal of such countries, and this feature is also taken into account in our model. We derive the optimality conditions for linear income taxation, commodity taxation, and public provision of private and public goods for the poverty minimization case and compare the results to those derived under a general welfarist objective function. We also study the implications of informality on optimal redistributive policies for such countries. The exercise reveals non-trivial differences in optimal tax rules under the different assumptions.     

The marginal cost of public funds is one at the optimal tax system

This paper develops a Mirrlees framework with skill and preference heterogeneity to analyze optimal linear and nonlinear redistributive taxes, optimal provision of public goods, and the marginal cost of public funds (MCF). It is shown that the MCF equals one at the optimal tax system, for both lump-sum and distortionary taxes, for linear and nonlinear taxes, and for both income and consumption taxes. By allowing for redistributional concerns, the marginal excess burden of distortionary taxes is shown to be equal to the marginal distributional gain at the optimal tax system. Consequently, the modified Samuelson rule should not be corrected for the marginal cost of public funds. Outside the optimum, the marginal cost of public funds for distortionary taxes can be either smaller or larger than one. The findings of this paper have potentially important implications for applied tax policy and social cost–benefit analysis.     

U.S. tax policy and health insurance demand: Can a regressive policy improve welfare?

The U.S. tax policy on health insurance is regressive because it subsidizes only those offered group insurance through their employers, who also tend to have a relatively high income. Moreover, the subsidy takes the form of deductions from the progressive income tax system giving high income earners a larger subsidy. To understand the effect of the policy, we construct a dynamic general equilibrium model with heterogenous agents and an endogenous demand for health insurance. A complete removal of the subsidy may lead to a partial collapse of the group insurance market, reduce the insurance coverage and deteriorate welfare. There is, however, room for improving the coverage and welfare by extending a refundable credit to the individual insurance market.     

Öffentliche Güter mit Versicherungscharakter

Dikes as well as early warning systems against natural disasters are just two examples for pure public goods that serve as an insurance device. Dikes reduce the probability of a loss caused by flooding. Such public goods can be seen as public self-protection. By contrast, early warning systems do not reduce the probability of a loss, but the size of a loss. Hence, such public goods can be seen as public self-insurance. The present paper presents a model which takes these characteristics into account. Conditions for the efficient provision of such public goods are derived. Moreover, we analyze the consequences of a change in income and risk aversion towards the efficient provision level as well as the interaction with private market insurance.     

Optimal redistributive tax and education policies in general equilibrium

This paper studies optimal linear and non-linear income taxes and education subsidies in two-type models with endogenous human capital formation, endogenous labor supply, and endogenous wage rates. Assuming constant human capital elasticities, human capital investment should be efficient under optimal linear policies, whether general equilibrium effects are present or not. Hence, education subsidies should not be used for distributional reasons. Due to general equilibrium effects, optimal linear income taxes may even become negative. Optimal non-linear policies exploit general equilibrium effects for redistribution. The high-skilled type optimally has a negative marginal income tax rate and a positive marginal education subsidy. The low-skilled type optimally faces a positive marginal income tax rate and a marginal tax on education. Simulations demonstrate that general equilibrium effects have only a modest effect on optimal non-linear policies.     

Pawns and queens revisited: public provision of private goods when individuals make mistakes

This paper analyses the optimal tax policy and public provision of private goods when the government is paternalistic and has a redistributive objective. When individuals only differ with respect to their income-earning abilities, the publicly-provided goods should be overprovided, relative to the decentralised optimum, if society’s marginal valuation of them exceeds the individual valuation and if these goods are complements to labour supply. However, when the individuals also differ in terms of their valuation of the publicly-provided good, this simple conclusion does not hold. Optimal marginal income tax rates are shown to differ from the standard rules if publicly-provided goods and labour supply are related.      

Self‐Insurance and Self‐Protection as Public Goods

Many public goods provide utility by insuring against hazardous events. Those public goods can have self‐insurance and self‐protection character. For both situations we analyze the efficient public provision level and the provision level resulting from Nash behavior in a private provision game. We consider the interaction of public goods as insurance devices with market insurance. The availability of market insurance reduces the provision level of the public good for both public and private provision, regardless of whether we consider self‐insurance or self‐protection. Moreover, we show that Nash behavior has always a larger impact than the availability of market insurance.     

Natural Disaster Insurance and the Equity-Efficiency Trade-Off

This article investigates the role of private insurance in the prevention and mitigation of natural disasters. We characterize the equity‐efficiency trade‐off faced by the policymakers under imperfect information about individual prevention costs. It is shown that a competitive insurance market with actuarial rate making and compensatory tax‐subsidy transfers is likely to dominate regulated uniform insurance pricing rules or state‐funded assistance schemes. The model illustrates how targeted tax cuts on insurance contracts can improve the incentives to prevention while compensating individuals with high prevention costs. The article highlights the complementarity between individual incentives through tax cuts and collective incentives through grants to the local jurisdictions where risk management plans are enforced.     

On taxing capital income with income shifting

We examine a linear capital income tax and a nonlinear labor income tax in a two-type model where individuals live for two periods. We assume that taxes are paid only in the second period in which the agents receive both labor and capital income and may shift income from labor to capital. The two types of individuals may differ with respect to wage rate and initial resource endowments. In the absence of income shifting, endowment variation motivates a capital income tax which would not exist where there is pure wage rate variation. In the latter circumstance, income shifting would indeed establish a case for a capital income tax while adding variation in resource endowments would ambiguously affect the case. The asymmetric information case for a capital income tax must be traded off against distortionary effects not only on savings, but also on labor as an agent may earn labor income which is reported and taxed as capital income.      

Will Private Health Insurance Make the Distribution of Public Health Subsidies More Equal? The Case of India

This paper assesses the impact of the entry of private players in the health insurance market on the size of the insurance market and the distribution of public health subsidies on health care provision in India. Simulation results presented in the paper suggest that the redistributive effect is small when richer groups have privileged access to public facilities.     

Central versus local education finance: a political economy approach

This paper models voters’ preferences over central versus local education policies when there are private alternatives. Education is financed by income taxes and individuals are mobile between communities. Public education levels are chosen by majority vote. Contrary to conventional wisdom, centralisation may benefit the rich and poor, while the middle class prefer decentralised education. The model is also extended to include peer effects. Peer effects increase the support for central school finance, even in the community with good public schools.      

The Role of Tax Subsidies in the Market for Health Insurance

This paper investigates the role of tax subsidies in linking the market for health insurance to the employment relationship. Using both American and Canadian data, it investigates how these subsidies influence whether health insurance coverage is offered in different sized firms and whether it is offered through an employer versus the individual private market. The findings indicate that tax subsidies encourage the provision of insurance in smaller firms. Removal of the subsidies would cause the level of insurance in small firms to decline significantly, but would not cause a large change in the level of insurance in larger firms. Part of this decline would be offset by increases in the market for individually purchased insurance.     

An Analysis of the Effect of Tax Policy on Health Insurance Purchases by Risk Group

There is an extensive body of literature dealing with the welfare loss associated with generous levels of health insurance as a function of the tax subsidy. The theoretical discussion in this study considers the effect of the tax subsidy on pooling within plans, and suggests the hypotheses that the tax subsidy will have a disproportionately positive effect on the likelihood that a high‐risk worker will be eligible for and participate in employment‐based coverage, while the effect of the tax subsidy on plan generosity will be greatest for low‐risk employees. If coverage of high‐risk individuals enhances social welfare, this result may offset, at least in part, the welfare loss associated with generous plans. Data from the 1987 National Medical Expenditure Survey are used to test these hypotheses. The results provide evidence that the subsidy works to expand risk pools in the employment‐based health insurance market.     

Mixed Tax Systems and the Public Provision of Private Goods

In contrast to what used to be conventional wisdom among economists,several recent contributions have shown that in-kind transfersschemes can be welfare-improving in the presence of distortionarytaxes (usually, linear taxes or a general income tax). In thisnote, we extend previous work by considering the most generaltax system compatible with reasonable information constraints,i.e. a mix of linear indirect and non-linear direct taxes. Threemain results are noted. We find that in the presence of a mixedtax system (as opposed to the non-linear income tax alone): i) not only encouraged but also discouraged goods satisfy a conditionfor the desirability of public provision; ii) there is a tendencyfor the optimal level of in-kind transfers to be lower; iii)there is a basic equivalence between uniform and income-contingentin-kind transfers. We also show how previous results can be derivedas special cases of ours and others have to be modified to accountfor the mixed tax system.     

Financing long-term care: employee needs and attitudes, and the employer's role.

Because of increasing life expectancies, high costs for nursing home and home health care, declining levels of informal family care, and the stated policy of the federal and state governments to foster self-reliance, individuals are increasingly exposed to the risk of financial ruin from long-term care (LTC) expenses. Yet, because of psychological barriers and aversions, particularly to thinking about residing in a nursing home, most individuals have not purchased LTC insurance. Hence, it may be the responsibility of employers to provide education to employees about LTC and to sponsor either individual or group plans of LTC insurance. Educational efforts may be particularly effective at the time of retirement when employees are in a more serious mood to consider the contingencies of retired life. A formal and perhaps more economical response for employers would be to offer combined life annuity and LTC insurance benefits through the retirement plan, provided certain regulatory and tax barriers can be removed.     

A normative analysis of capital income taxes in the presence of aggregate risk

A simple portfolio model is used to examine the efficiency effects of capital income taxes when the economy faces aggregate risk. To achieve a first best optimum the use of state contingent lump sum taxes is required. Through the tax policy the riskiness of total consumption is partly assigned to the private consumption and partly to the public consumption. State independent income taxes may generate a misallocation of risk and distort the allocation of resources between assets. The second best optimum, representing a trade-off between these inefficiencies, is characterized. Uniform taxation is shown to be optimal only in very special cases. Finally, the second best optimality rule for public consumption is extended to the case of uncertainty.     

Public Versus Private Insurance with Dual Theory: A Political Economy Argument

This paper analyzes the political support for public insurance in the presence of a private insurance alternative. The public insurance is compulsory and offers a uniform insurance policy. The private insurance is voluntary and can offer different insurance policies. Adopting Yaari's [Econometrica, 55, 95–115, 1987] dual theory to expected utility (i.e., risk aversion without diminishing marginal utility of income), we show that adverse selection on the private insurance market may lead a majority of individuals to prefer public insurance over private insurance, even if the median risk is below the average risk (so that the median actually subsidizes high-risk individuals). We also show that risk aversion makes public insurance more attractive and that the dual theory is less favourable to a mixed insurance system than the expected utility framework. Lastly, we demonstrate how the use of genetic tests may threaten the political viability of public insurance.