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Factor Taxation with Heterogeneous Agents

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  • Domeij, David

    ()
    (Dept. of Economics, Stockholm School of Economics)

  • Heathcote, Jonathan

    (Dept. of Economics, Stockholm School of Economics)

Abstract

We investigate the welfare implications of changing a proportional capital income tax for a model economy in which heterogeneous households face labor income risk and trade only one asset. Labor taxes are adjusted at the time of the reform to maintain long run budget balance. Our stochastic process for labor earnings is consistent with empirical estimates of earnings risk, and also implies a distribution of asset holdings across households closely resembling that in the United States. We find that a vast majority of households prefers the status quo to eliminating capital taxes. This finding is interesting in light of the fact that this reform would be optimal if we abstracted from heterogeneity and assumed a representative agent. A second finding is that in the incomplete markets economy, a utilitarian government prefers the current calibrated U.S. capital income tax rate (39.7 percent) to any change in the capital tax rate. If markets were complete, on the other hand, average welfare would be maximized by reducing the capital tax rate to around 30 percent.

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Bibliographic Info

Paper provided by Stockholm School of Economics in its series Working Paper Series in Economics and Finance with number 372.

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Length: 32 pages
Date of creation: 30 Mar 2000
Date of revision:
Handle: RePEc:hhs:hastef:0372

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Keywords: Factor taxation; redistribution; heterogeneous agents;

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References

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  1. Juan C. Conesa & Dirk Krueger, 1999. "Social Security Reform with Heterogeneous Agents," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 2(4), pages 757-795, October.
  2. Andrew Atkeson & V.V. Chari & Patrick J. Kehoe, 1999. "Taxing capital income: a bad idea," Quarterly Review, Federal Reserve Bank of Minneapolis, Federal Reserve Bank of Minneapolis, issue Sum, pages 3-17.
  3. Aiyagari, S. Rao & McGrattan, Ellen R., 1998. "The optimum quantity of debt," Journal of Monetary Economics, Elsevier, Elsevier, vol. 42(3), pages 447-469, October.
  4. Aiyagari, S Rao, 1995. "Optimal Capital Income Taxation with Incomplete Markets, Borrowing Constraints, and Constant Discounting," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 103(6), pages 1158-75, December.
  5. Teresa Garcia-Milà & Albert Marcet & Eva Ventura, 1995. "Supply side interventions and redistribution," Economics Working Papers, Department of Economics and Business, Universitat Pompeu Fabra 115, Department of Economics and Business, Universitat Pompeu Fabra.
  6. Chatterjee, Satyajit, 1994. "Transitional dynamics and the distribution of wealth in a neoclassical growth model," Journal of Public Economics, Elsevier, Elsevier, vol. 54(1), pages 97-119, May.
  7. Hubbard, R Glenn & Skinner, Jonathan & Zeldes, Stephen P, 1995. "Precautionary Saving and Social Insurance," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 103(2), pages 360-99, April.
  8. Chamley, Christophe, 1986. "Optimal Taxation of Capital Income in General Equilibrium with Infinite Lives," Econometrica, Econometric Society, Econometric Society, vol. 54(3), pages 607-22, May.
  9. Javier Díaz-Giménez & Vincenzo Quadrini & José-Víctor Ríos-Rull, 1997. "Dimensions of inequality: facts on the U.S. distributions of earnings, income, and wealth," Quarterly Review, Federal Reserve Bank of Minneapolis, Federal Reserve Bank of Minneapolis, issue Spr, pages 3-21.
  10. David Card, 1991. "Intertemporal Labor Supply: An Assessment," NBER Working Papers 3602, National Bureau of Economic Research, Inc.
  11. Kenneth L. Judd, 1982. "Redistributive Taxation in a Simple Perfect Foresight Model," Discussion Papers, Northwestern University, Center for Mathematical Studies in Economics and Management Science 572, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  12. Enrique G. Mendoza & Assaf Razin & Linda L. Tesar, 1994. "Effective Tax Rates in Macroeconomics: Cross-Country Estimates of Tax Rates on Factor Incomes and Consumption," NBER Working Papers 4864, National Bureau of Economic Research, Inc.
  13. Huggett, Mark, 1997. "The one-sector growth model with idiosyncratic shocks: Steady states and dynamics," Journal of Monetary Economics, Elsevier, Elsevier, vol. 39(3), pages 385-403, August.
  14. Heaton, John & Lucas, Deborah J, 1996. "Evaluating the Effects of Incomplete Markets on Risk Sharing and Asset Pricing," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 104(3), pages 443-87, June.
  15. Chamley, Christophe, 2001. "Capital income taxation, wealth distribution and borrowing constraints," Journal of Public Economics, Elsevier, Elsevier, vol. 79(1), pages 55-69, January.
  16. repec:fth:inseep:9811 is not listed on IDEAS
  17. Judd, Kenneth L, 1987. "The Welfare Cost of Factor Taxation in a Perfect-Foresight Model," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 95(4), pages 675-709, August.
  18. Vincenzo Quadrini, 2000. "Entrepreneurship, Saving and Social Mobility," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 3(1), pages 1-40, January.
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  20. Christophe Chamley, 1998. "Capital Income Taxation, Wealth Distribution and Borrowing Constraints," Working Papers, Centre de Recherche en Economie et Statistique 98-11, Centre de Recherche en Economie et Statistique.
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Citations

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Cited by:
  1. Pierre-Daniel G. Sarte, 2006. "Stark optimal fiscal policies and sovereign lending," Economic Quarterly, Federal Reserve Bank of Richmond, Federal Reserve Bank of Richmond, issue Fall, pages 337-352.
  2. Martin Floden, 2000. "The Effectiveness of Government Debt and Transfers as Insurance," Econometric Society World Congress 2000 Contributed Papers, Econometric Society 1013, Econometric Society.
  3. David Domeij & Paul Klein, 2002. "Private Pensions: To What Extent Do They Account for Swedish Wealth Inequality?," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 5(3), pages 503-534, July.
  4. Teresa Garcia-Milà & Albert Marcet & Eva Ventura, 2010. "Supply Side Interventions and Redistribution," Economic Journal, Royal Economic Society, Royal Economic Society, vol. 120(543), pages 105-130, 03.
  5. Jonathan Heathcote & Kjetil Storesletten & Giovanni L. Violante, 2010. "The Macroeconomic Implications of Rising Wage Inequality in the United States," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 118(4), pages 681-722, 08.
  6. Heathcote, Jonathan & Storesletten, Kjetil & Violante, Giovanni L, 2004. "The Cross-Sectional Implications of Rising Wage Inequality in the United States," CEPR Discussion Papers, C.E.P.R. Discussion Papers 4296, C.E.P.R. Discussion Papers.

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