The end of the flat tax experiment in Slovakia: An evaluation using behavioural microsimulation in a dynamic macroeconomic framework

Abstract

The paper introduces a new way of linking microsimulation models with dynamic general equilibrium frameworks to obtain an evaluation of the impact of detailed tax and benefit measures on the aggregate economy. In the approach presented in this paper, income heterogeneity interacts with the macro-economy via aggregated individual labour supply decisions which influence, and are influenced by, the dynamic evolution of the real wage rate. The method involves a reduced-form representation of the information flow between the macroeconomic and microeconomic blocks. The practical usefulness of the approach is demonstrated by evaluating actual and hypothetical tax reforms that involve abandoning the flat tax system in Slovakia. A hypothetical move to a highly progressive tax structure is shown to generate some employment gains but is associated with a drop in aggregate income and tax revenue.

The Tax Burden CGE Analysis for Slovakia and Slovenia

“…Remeta, Perret, Jareš and Brys (2015) evaluated the 2004 Slovak tax reform and conclude that the tax system still suffers from weaknesses leading to lower revenues and slower economic growth hence there is a need for additional tax reforms and tightening the tax administration. Horvath et al (2019) present a novel way of linking microsimulation models with dynamic general equilibrium frameworks to evaluate not only the fiscal, but also the aggregate macroeconomic effects of actual and hypothetical tax reforms in Slovakia. They show that a move to a highly progressive tax structure leads to employment gains but at the same time is "associated with a drop in aggregate income and tax revenue".…”

The Evaluation of Fiscal Consolidation Strategies

“…Modelling the labour supply at the extensive margin is detailed in our related analysis by Senaj, Siebertova, Svarda, and Valachyova (2016). Based on the macro part of the model, described in Horvath, Senaj, Siebertova, Svarda, and Valachyova (2018), the long-run effects on the aggregate economy can be evaluated (in particular, the impact on output growth or employment).…”

“…The framework that we use for long-run evaluation of fiscal consolidation strategies is the what-if model presented in detail in Horvath et al (2018). In general, the what-if model consists of two main blocks, the behavioural microsimulation one described above and a theoretical macroeconomic part.…”