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Optimal Taxation and Social Insurance in a Lifetime Perspective

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  • A. Lans Bovenberg

    (Tilburg University)

  • Peter Birch Sørensen

    (Department of Economics, University of Copenhagen)

Abstract

Advances in information technology have improved the administrative feasibility of redistribution based on lifetime earnings recorded at the time of retirement. We study optimal lifetime income taxation and social insurance in an economy in which redistributive taxation and social insurance serve to insure (ex ante) against skill heterogeneity as well as disability risk. Optimal disability benefits rise with previous earnings so that public transfers depend not only on current earnings but also on earnings in the past. Hence, lifetime taxation rather than annual taxation is optimal. The optimal tax-transfer system does not provide full disability insurance. By offering imperfect insurance and structuring disability benefits so as to enable workers to insure against disability by working harder, social insurance is designed to offset the distortionary impact of the redistributive labor income tax on labor supply.

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Bibliographic Info

Paper provided by Economic Policy Research Unit (EPRU), University of Copenhagen. Department of Economics in its series EPRU Working Paper Series with number 06-01.

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Length: 29 pages
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Handle: RePEc:kud:epruwp:06-01

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Keywords: optimal lifetime income taxation; optimal social insurance;

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  1. Lans Bovenberg & Peter Birch Sørensen, 2003. "Improving the Equity-Efficiency Trade-off: Mandatory Savings Accounts for Social Insurance," CESifo Working Paper Series 1041, CESifo Group Munich.
  2. Joseph Stiglitz & Jungyoll Yun, 2002. "Integration of unemployment insurance with retirement insurance," Discussion Papers 0203-04, Columbia University, Department of Economics.
  3. Dixit, Avinash K & Sandmo, Angar, 1977. " Some Simplified Formulae for Optimal Income Taxation," Scandinavian Journal of Economics, Wiley Blackwell, vol. 79(4), pages 417-23.
  4. P. A. Diamond & J. A. Mirrlees, 1977. "A Model of Social Insurance With Variable Retirement," Working papers 210, Massachusetts Institute of Technology (MIT), Department of Economics.
  5. Folster, Stefan, 1999. "Social Insurance Based on Personal Savings," The Economic Record, The Economic Society of Australia, vol. 75(228), pages 5-18, March.
  6. Fölster, Stefan & Gidehag, Robert & Orszag, Mike & Snower, Dennis J., 2002. "Assessing Welfare Accounts," IZA Discussion Papers 533, Institute for the Study of Labor (IZA).
  7. Orszag, Mike & Snower, Dennis J., 1997. "Expanding the Welfare System: A Proposal for Reform," CEPR Discussion Papers 1674, C.E.P.R. Discussion Papers.
  8. Martin Feldstein & Daniel Altman, 1998. "Unemployment Insurance Savings Accounts," NBER Working Papers 6860, National Bureau of Economic Research, Inc.
  9. William Vickrey, 1939. "Averaging of Income for Income-Tax Purposes," Journal of Political Economy, University of Chicago Press, vol. 47, pages 379.
  10. Greenwald, Bruce C & Stiglitz, Joseph E, 1986. "Externalities in Economies with Imperfect Information and Incomplete Markets," The Quarterly Journal of Economics, MIT Press, vol. 101(2), pages 229-64, May.
  11. Pauly, Mark V, 1974. "Overinsurance and Public Provision of Insurance: The Roles of Moral Hazard and Adverse Selection," The Quarterly Journal of Economics, MIT Press, vol. 88(1), pages 44-62, February.
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