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A Simulation-Based Welfare Loss Calculation for Labor Taxes with Piecewise-Linear Budgets

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  • Don Fullerton
  • Li Gan

Abstract

Graduated income tax rates and transfer programs create piecewise-linear budget constraints that consist of budget segments and kink points. With any change in these tax rules, each individual may switch between a kink point and a budget segment, between two budget segments, or between two kink points. With errors in the estimated labor supply equation, the new choice is uncertain, and so the welfare effects of a tax change are uncertain. We propose a simulation-based method to compute expected welfare effects that is easy to implement and that fully accounts for uncertainties about choices around kink points. Our method also provides information about expected changes in working hours.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 10139.

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Date of creation: Dec 2003
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Publication status: published as Fullerton, Don and Li Gan. "A Simulation-Based Welfare Loss Calculation For Labor Taxes With Piecewise-Linear Budgets," Journal of Public Economics, 2004, v88(11,Sep), 2339-2359.
Handle: RePEc:nbr:nberwo:10139

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  2. Jerry A. Hausman, 1983. "Stochastic Problems in the Simulation of Labor Supply," NBER Chapters, National Bureau of Economic Research, Inc, in: Behavioral Simulation Methods in Tax Policy Analysis, pages 47-82 National Bureau of Economic Research, Inc.
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  7. Blundell, Richard & Macurdy, Thomas, 1999. "Labor supply: A review of alternative approaches," Handbook of Labor Economics, Elsevier, in: O. Ashenfelter & D. Card (ed.), Handbook of Labor Economics, edition 1, volume 3, chapter 27, pages 1559-1695 Elsevier.
  8. Blomquist, N. Soren, 1983. "The effect of income taxation on the labor supply of married men in Sweden," Journal of Public Economics, Elsevier, Elsevier, vol. 22(2), pages 169-197, November.
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  11. Hausman, Jerry A & Newey, Whitney K, 1995. "Nonparametric Estimation of Exact Consumers Surplus and Deadweight Loss," Econometrica, Econometric Society, Econometric Society, vol. 63(6), pages 1445-76, November.
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  13. Dickens, William T & Lundberg, Shelly J, 1993. "Hours Restrictions and Labor Supply," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 34(1), pages 169-92, February.
  14. Berkovec, James & Fullerton, Don, 1992. "A General Equilibrium Model of Housing, Taxes, and Portfolio Choice," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 100(2), pages 390-429, April.
  15. Daniel McFadden, 1996. "Computing Willingness-to-Pay in Random Utility Models," Working Papers, University of California at Berkeley, Econometrics Laboratory Software Archive _011, University of California at Berkeley, Econometrics Laboratory Software Archive.
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  20. Browning, Edgar K, 1987. "On the Marginal Welfare Cost of Taxation," American Economic Review, American Economic Association, American Economic Association, vol. 77(1), pages 11-23, March.
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Cited by:
  1. Nada Eissa & Henrik Jacobsen Kleven & Claus Thustrup Kreiner, 2004. "Evaluation of Four Tax Reforms in the United States: Labor Supply and Welfare Effects for Single Mothers," NBER Working Papers, National Bureau of Economic Research, Inc 10935, National Bureau of Economic Research, Inc.
  2. Peter C. Reiss & Matthew W. White, 2006. "Evaluating Welfare with Nonlinear Prices," NBER Working Papers, National Bureau of Economic Research, Inc 12370, National Bureau of Economic Research, Inc.
  3. Stuart Adam, 2005. "Measuring the marginal efficiency cost of redistribution in the UK," IFS Working Papers, Institute for Fiscal Studies W05/14, Institute for Fiscal Studies.

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