Entrepreneurial talent, occupational choice, and trickle up policies

We study market inefficiencies and policy remedies when agents choose their occupations, and entrepreneurial talent is subject to private information. Untalented entrepreneurs depress the returns to entrepreneurship because of adverse selection. The severity of this problem depends on the outside option of entrepreneurs, which is working for wages. This links credit, product and labor markets. A rise in wages reduces the adverse selection problem. These multimarket interactions amplify productivity shocks and may generate multiple equilibria. If it is impossible to screen entrepreneurs then all agents unanimously support a tax on entrepreneurs that drives out the less talented ones. However, if screening is possible, e.g., if wealthy entrepreneurs can provide collateral for their loans, then wealthy entrepreneurs do not support surplus enhancing taxes.     

Shifting Taxes from Labor to Consumption: More Employment and more Inequality?

This paper investigates the effect of shifting taxes from labor income to consumption on labor supply and the distribution of income in Germany. We simulate stepwise increases in the value‐added tax (VAT) rate, which are compensated by revenue‐neutral reductions in income‐related taxes. We differentiate between the personal income tax (PIT) and social security contributions (SSC). Based on a dual data base and a microsimulation model of household labor supply behavior, we find a regressive impact of such a tax shift in the short run. When accounting for labor supply adjustments, the adverse distributional impact persists for PIT reductions, while the overall effects on inequality and progressivity become lower when payroll taxes are reduced. This is partly due to increases in aggregate labor supply, resulting from higher work incentives.     

Do Distortionary Taxes Always Harm Growth?

This paper examines the long-run effects of capital income taxes, labor income taxes, and expenditure taxes in an R&D-based model of endogenous growth with endogenous labor supply. The main contribution of this paper is to investigate how tax effects on long-run growth are influenced by the emergence of indeterminate equilibria. Indeterminacy in this instance arises due to nonseparable preferences between consumption and leisure, in conjunction with prior distortionary taxes. In contrast to conventional wisdom, we show that higher distortionary taxes improve long-run growth, as well as social welfare, when the steady state is indeterminate.     

AGE‐DEPENDENT TAXES WITH ENDOGENOUS HUMAN CAPITAL FORMATION

We assess the gains attained by the introduction of age‐dependent labor income taxes in an overlapping generations economy where individuals live a meaningful life cycle and endogenously accumulate human capital. The model is sufficiently rich to isolate the role of general equilibrium effects, credit market imperfections, and different forms of human capital accumulation. The large welfare gains we obtain cannot be attained without age dependence, nor can they be attained with age‐dependent taxes if progressivity of labor income taxes and capital income tax rates are not suitably adjusted to profit from the complementarity of these instruments.     

税收、收入不平等和内生经济增长

企业家(通过金融中介)从家庭借贷来支撑创新。二者在企业家的努力不为外人所见的情形下双方签订信用合同分享创新带来的垄断利润(即蛋糕)。两个有代表性经济人(企业家和家庭)的存在允许人们在内生经济增长模型里研究收入不平等。本文研究发现,企业家分配份额的增加一开始会提升增长速度,但是过了一定值后会拉低增长速度;而该份额的增加一直拉大企业家和工人间的收入差距。所以降低企业家获得的蛋糕的份额的分配改革可缩小收入差距。提高企业家来自创新的收入的税率将降低他们的努力程度,从而降低增长速度,但是该税率的提高有助于降低收入不平等程度。存款收入的税率提高尽管不会改变企业家的努力程度,但是也会降低经济增长速度,而且不会降低收入不平等(如果工人有一定比例的存款)。对于劳动收入(工人工资)的税率增加会加剧工人和企业家间的收入不平等,但对经济增长速度没有影响。     

Tax Liability and Tax Evasion in a Competitive Labor Market

In a competitive labor market, a change in the legal incidence of a tax on labor will not alter employment if tax obligations are fulfilled. However, this irrelevance result may no longer apply if taxes can be evaded. In particular, a shift from payroll to income taxes will lower employment. This will be the case if workers exhibit constant absolute risk aversion, have a utility function, which is strongly separable in income and the disutility from working, and the penalty for evasion is not proportional to the amount of taxes evaded. Accordingly, tax evasion opportunities can make the legal incidence of a tax on labor an important determinant of its economic incidence.     

Nonseparable preferences and optimal social security systems

In this paper, we consider economies in which agents are privately informed about their skills, which evolve stochastically over time. We require agents' preferences to be weakly separable between the lifetime paths of consumption and labor. However, we allow for intertemporal nonseparabilities in preferences like habit formation. In this environment, we derive a generalized version of the Inverse Euler Equation and use it to show that intertemporal wedges characterizing optimal allocations of consumption can be strictly negative. We also show that preference nonseparabilities imply that optimal differentiable asset income taxes are necessarily retrospective in nature. We show that under weak conditions, it is possible to implement a socially optimal allocation using a social security system in which taxes on wealth are linear, and taxes/transfers are history-dependent only at retirement. The average asset income tax in this system is zero.     

Endogenous trading constraints with incomplete asset markets

This paper endogenizes the borrowing constraints on capital in a production economy with incomplete markets. We find that these limits get looser with income, a property that is consistent with US data on credit limits. The framework with endogenous limits is then used to study the effects of a revenue neutral tax reform that eliminates capital income taxes. Our results illustrate that it is very important to take into account the effects of tax policies on the limits. Throughout the transition, these effects can be big enough to change the overall conclusion about the desirability of a tax reform.     

Labor or consumption taxes? An application with a dynamic general equilibrium model with heterogeneous agents

This study analyzes the effects of tax reform that shifts tax burden from labor to consumption. In this context, I also deal with the issue of progressivity. Even though this kind of tax policy change has recently gained popularity, its positive effects are debatable while the offsetting effect of a consumption tax on labor supply makes the net output change rather ambiguous. I examine these effects using a dynamic general equilibrium model with heterogeneous agents. The model is calibrated to fit certain characteristics of the Finnish economy. In addition to output and employment effects, I study the tax reform's effect on income and wealth distribution. First, I find that eliminating progressivity in labor taxation increases output via increase in capital accumulation that comes, however, in expense of slightly more inequality. Then, tax reform that replaces progressive labor taxes with a flat-rate consumption tax leads to a significant rise in capital accumulation, a negligible change in labor supply and gross labor income distribution, but a relatively considerable increase in wealth concentration.     

The Financial Crisis of 1929 Reexamined: The Role of Soaring Inequality

The financial crisis of 1929 that triggered the Great Depression has been endlessly studied. Still there is little consensus regarding what caused it. This article claims that wage stagnation and exploding inequality fueled three dynamics that set the stage for a financial crisis. First, consumption was constrained by the smaller share of total income accruing to workers, thereby restricting investment opportunities in the real economy. Flush with greater income and wealth, the elite flooded financial markets with credit, helping keep interest rates low and encouraging the creation of new credit instruments, some of which recycled the rich's surplus assets as debt to those less well off. Second, greater inequality pressured households to find ways to consume more in order to maintain their relative social status, resulting in reduced household saving, greater household debt, and possibly longer work hours. Third, as the rich took larger shares of income and wealth, they gained relatively more command over everything, including ideology. Reducing taxes on the rich, favoring business over labor, and failing to regulate newly evolving credit instruments flowed out of this ideology.     

Social Comparisons and Optimal Taxation in a Small Open Economy

In this paper, we analyze how international capital mobility affects the optimal labor and capital income tax policy in a small open economy when consumers care about relative consumption. The main results crucially depend on whether the government can tax returns on savings abroad. If the government can use flexible residence‐based capital income taxes, then the optimal policy rules from a closed economy largely carry over to the case of a small open economy. If it cannot, then capital income taxes become completely ineffective. The labor income taxes must then indirectly also reflect the corrective purpose that the absent capital income tax would have had.     

Optimal Taxation in Life-Cycle Economies

We use a very standard life-cycle growth model, in which individuals have a labor-leisure choice in each period of their lives, to prove that an optimizing government will almost always find it optimal to tax or subsidize interest income. The intuition for our result is straightforward. In a life-cycle model the individual's optimal consumption-work plan is almost never constant and an optimizing government almost always taxes consumption goods and labor earnings at different rates over an individual's lifetime. One way to achieve this goal is to use capital and labor income taxes that vary with age. If tax rates cannot be conditioned on age, a nonzero tax on capital income is also optimal, as it can (imperfectly) mimic age-conditioned consumption and labor income tax rates. Journal of Economic Literature Classification Numbers: E62, H21.     

Foreign direct investment in a world of multiple taxes

Governments impose multiple taxes on foreign investors, though studies of the effect of tax policy on the location of foreign direct investment (FDI) focus almost exclusively on corporate income taxes. This paper examines the impact of indirect (non-income) taxes on FDI by American multinational firms, using affiliate-level data that permit the introduction of controls for parent companies and affiliate industries. Indirect tax burdens significantly exceed the foreign income tax obligations of foreign affiliates of American companies. Estimates imply that 10% higher local indirect tax rates are associated with 7.1% lower affiliate assets, which is similar to the effect of 10% higher income tax rates. Affiliate output falls by 2.9% as indirect taxes rise by 10%, while higher income taxes have more modest output effects. High corporate income tax rates depress capital/labor ratios and profit rates of foreign affiliates, whereas high indirect tax rates do not. These patterns reveal the impact of indirect taxes and suggest the mechanisms by which direct and indirect taxes affect FDI.     

Time‐consistent optimal fiscal policy*

This article studies the properties of optimal fiscal policy in a stochastic growth model when the government cannot commit itself beyond the next period's capital income tax rate. We find that the results contrast markedly with those under full commitment. First, capital income tax rates are very high (65% on average versus close to zero on average under full commitment). Second, labor income taxes are rather low on average (about 12% versus a value of around 31% under full commitment). Finally, labor income taxes are quite volatile, whereas under full commitment their standard deviation is essentially zero.     

Constrained Inefficiency and Optimal Taxation with Uninsurable Risks

When individuals' labor and capital income are subject to uninsurable idiosyncratic risks, should capital and labor be taxed, and if so how? In a two‐period general equilibrium model with production, we derive a decomposition formula of the welfare effects of these taxes into insurance and distribution effects. This allows us to determine how the sign of the optimal taxes on capital and labor depend on the nature of the shocks and the degree of heterogeneity among consumers' income, as well as on the way in which the tax revenue is used to provide lump‐sum transfers to consumers. When shocks affect primarily labor income and heterogeneity is small, the optimal tax on capital is positive. However, in other cases a negative tax on capital is welfare‐improving.     

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.     

Optimal human capital policies under the endogenous choice of educational types

This study examines optimal human capital policies under nonlinear labor and capital income taxes in the presence of consumption value of education in a two‐period setting. We show that when individuals can choose educational types differing by the relative importance of consumption value and production value, education subsidies for low‐type individuals should not equal an efficient level that offsets distortions induced by nonlinear taxes on labor and capital income. Our findings imply that education policy does not restore efficiency, or the Diamond–Mirrlees production efficiency theorem fails. Moreover, capital income taxation is optimal, which means that the Atkinson–Stiglitz theorem breaks down.     

Welfare states and unemployment

Summary This paper studies equilibrium unemployment in a search model where the government both provides liberal unemployment insurance and taxes labor at high progressive tax rates. It is shown how progressive income taxation can counteract a high unemployment rate under generous unemployment insurance. In particular, high marginal taxes reduce workers' incentives to switch jobs in response to changing economic opportunities. This lower labor mobility reduces unemployment but at the cost of a less efficient labor allocation.We are grateful to William Dupor, Krishna Kumar, and Ashok Rai for excellent computer programming.     

Schumpeterian Growth with Productive Public Spending and Distortionary Taxation

Schumpeterian growth theory eliminates the scale effect by positing a process of development of new product lines that fragments the aggregate market in submarkets whose size does not increase with population or the size of the workforce. This entails the sterilization of the growth effects of selected fiscal variables. This insight is applied to shed new light on the role of distortionary taxes on consumption, household labor and assets income, corporate income, and of productive public spending. The framework allows the identification of which of these fiscal variables have permanent (steady‐state) growth effects, and which ones have only transitory effects. It also allows the transitional dynamics to be solved analytically and thus the analysis of the welfare effects of revenue‐neutral changes in tax structure. It is found that replacing taxes that distort labor supply with taxes that distort saving/investment choices raises welfare, and the intuition behind this surprising result is discussed.