Overreaction to capital taxation in saving decisions

This paper studies the response of saving decisions to two alternative types of capital taxation: the wealth tax and the capital income tax. First, we conducted a lifecycle experiment using Amazon MTurk, wherein subjects made dynamic saving decisions. Subjects exhibited an overreaction to wealth taxes but not to capital income taxes: subjects’ savings decreased more with the introduction of a wealth tax than with a financially equivalent drop in capital returns. Second, we built a parsimonious behavioral model of individual optimization to characterize this overreaction and illustrate its welfare implications. Finally, additional treatments began to explore the root cause of this overreaction bias. We ruled out the explanation that the intrinsic aversion to paying wealth taxes drives overreaction. Instead, overreaction seems to be driven by subjects’ incorrect understanding of the effects of wealth taxes on their savings.