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Redistributing the Gains from Trade through Progressive Taxation

In: Trade and Labor Markets

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  • Spencer Lyon
  • Michael Waugh

Abstract

Should a nation's tax system become more progressive as it opens to trade? Does opening to trade change the benefits of a progressive tax system? We answer these question within a standard incomplete markets model with frictional labor markets and Ricardian trade. Consistent with empirical evidence, adverse shocks to comparative advantage lead to labor income losses for import-competition-exposed workers; with incomplete markets, these workers are imperfectly insured and experience welfare losses. A progressive tax system is valuable, as it substitutes for imperfect insurance and redistributes the gains from trade. However, it also reduces the incentives for labor to reallocate away from comparatively disadvantaged locations. We find that optimal progressivity should increase with openness to trade with a ten percentage point increase in openness necessitating a five percentage point increase in marginal tax rates for those at the top of the income distribution.
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Suggested Citation

  • Spencer Lyon & Michael Waugh, 2017. "Redistributing the Gains from Trade through Progressive Taxation," NBER Chapters, in: Trade and Labor Markets, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberch:14160
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    1. Redistributing the Gains From Trade Through Progressive Taxation
      by Christian Zimmermann in NEP-DGE blog on 2018-10-17 19:54:28

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    JEL classification:

    • E1 - Macroeconomics and Monetary Economics - - General Aggregative Models
    • F11 - International Economics - - Trade - - - Neoclassical Models of Trade
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation

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