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A micro-foundation for the Laffer curve in a real effort experiment

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  • Louis Lévy-Garboua

    ()
    (TEAM et CIRANO)

  • David Masclet

    ()
    (CREM - Université de Rennes)

  • Claude Montmarquette

    ()
    (Université de Montréal et CIRANO)

Abstract

A conjecture of Laffer, which had considerable influence on fiscal doctrine, is that tax revenues of a Leviathan state eventually decrease when the tax rate exceeds a threshold value. We conduct a real effort experiment, in which a "worker" is matched with a non-working partner, to elicit the conditions under which a Laffer curve can be observed. We ran four different treatments by manipulating work opportunities and the power to tax. In the endogenous treatment, the non-working partner chooses a tax rate among the set of possibilities and receives the revenue generated by her choice and the worker's effort response to this tax rate. In the exogenous treatment, the tax rate is randomly selected by the computer and the non-working partner merely receives the revenue from taxes. The Laffer curve phenomenon cannot be observed in the exogenous treatments, but arises in endogenous treatments. Tax revenues are then maximized at a 50% tax rate. We demonstrate that an " efficiency tax " model (with or without inequity aversion) falls short of predicting our experimental Laffer curve but an alternative model of social preferences provides a micro-foundation for the latter. This new model endogenously generates a social norm of fair taxation at a 50% tax rate under asymmetric information about workers' type. Taxpayers manage to enforce this norm by working less whenever it has been violated but do not systematically reward " kind " tax setters. Workers who maximize their expected wealth adjust work to the tax rate equitably so that tax revenues remain at a fair level. Workers who respond affectively to norm violations just refuse to work so that tax revenues are cut down. Workers endowed with higher work opportunities tend to respond more emotionally to unfair taxation in our experiment, which is consistent with the observed Laffer curve and with the history of tax revolts.

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Bibliographic Info

Paper provided by Université Panthéon-Sorbonne (Paris 1) in its series Cahiers de la Maison des Sciences Economiques with number bla05071.

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Length: 34 pages
Date of creation: Oct 2005
Date of revision:
Handle: RePEc:mse:wpsorb:bla05071

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Keywords: Taxation and labor supply; Laffer curve; experimental economies.;

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Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. How not to argue for tax cuts
    by chris dillow in Stumbling and Mumbling on 2006-09-05 10:31:57
  2. Looking for a Laffer curve
    by chris dillow in Stumbling and Mumbling on 2006-07-17 11:27:55
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Cited by:
  1. David Masclet & Claude Montmarquette, 2007. "Approche expérimentale de l'incidence de la fiscalité sur l'offre de travail : Une étude comparative des systèmes d'imposition," CIRANO Working Papers 2007s-15, CIRANO.

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