The long run effects of changes in tax progressivity

Abstract

This paper compares the steady state outcomes of revenue-neutral changes to the progressivity of the tax schedule. Our economy features heterogeneous households who differ in their preferences and permanent labor productivities, but it does not have idiosyncratic risk. We fi nd that increases in the progressivity of the tax schedule are associated with long-run distributions with greater aggregate income, wealth, and labor input. Average hours generally declines as the tax schedule becomes more progressive implying that the economy substitutes away from less productive workers toward more productive workers. Finally, as progressivity increases, income inequality is reduced and wealth inequality rises. Many of these results are qualitatively different than those found in models with idiosyncratic risk, and therefore suggest closer attention should be paid to modeling the insurance opportunities of households.

Consumption Inequality and Family Labor Supply

“…0), so that adjustment is delegated to declines in leisure rather than declines in consumption. 16 The response of earner j's to a permanent shock faced by the other earner is instead informative about the so-called added worker e¤ ect. Looking at yj ;v j , it is easy to see that the latter e¤ect is unambiguously negative, i.e., earner j always increases her labor supply when earner i is hit by a permanent negative shock.…”

“…In a proportional tax system t will be zero and t will represent the proportional tax rate. Researchers have proposed a number of alternative mappings (see Carroll and Young, 2011, and the references therein). We prefer this mapping because it provides a simple log-linear relationship between after-and before-tax income.…”

Income tax progressivity, growth, income inequality and welfare

“…In a closely related paper, Peterman (2014) finds that the introduction of human capital causes a 4.7 % increase in the optimal capital tax and a notably flatter optimal labor income tax. Carroll and Young (2011) find that increases in the progressivity of the income tax schedule are associated with long-run distributions with greater aggregate income, wealth, capital and labor, and lower income inequality and higher wealth inequality. Diamond and Saez (2011) and Kindermann and Krueger (2014) suggest that the optimal labor income tax rate for the top earners would imply a marginal tax rate as high as 73 % or even 90 %.…”

The Politics of Flat Taxes

“…13 Here we follow the convention of recursive methods by denoting next period values with a prime. 14 We invoke an appropriate law of large numbers, such as the one from Sun (2006). subject to nonnegativity constraints and the budget constraint…”