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Optimal Taxation of Entrepreneurial Capital with Private Information

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Author Info
Stefania Albanesi

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Abstract

This paper studies optimal taxation of entrepreneurial capital with private information and multiple assets. Entrepreneurial activity is subject to a dynamic moral hazard problem and entrepreneurs face idiosyncratic capital risk. We first characterize the optimal allocation subject to the incentive compatibility constraints resulting from the private information. The optimal tax system implements such an allocation as a competitive equilibrium for a given market structure. We consider several market structures that differ in the assets or contracts traded and obtain three novel results. First, differential asset taxation is optimal. Marginal taxes on bonds depend on the correlation of their returns with idiosyncratic capital risk, which determines their hedging value. Entrepreneurial capital always receives a subsidy relative to other assets in the bad states. Second, if entrepreneurs are allowed to sell equity, the optimal tax system embeds a prescription for double taxation of capital income – at the firm level and at the investor level. Finally, we show that taxation of assets is essential even with competitive insurance contracts, when entrepreneurial portfolios are also unobserved.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 12419.

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Date of creation: Aug 2006
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Handle: RePEc:nbr:nberwo:12419

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Find related papers by JEL classification:
D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information
E22 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Capital; Investment; Capacity
E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
H2 - Public Economics - - Taxation, Subsidies, and Revenue
H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
H25 - Public Economics - - Taxation, Subsidies, and Revenue - - - Business Taxes and Subsidies
H3 - Public Economics - - Fiscal Policies and Behavior of Economic Agents

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Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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    Other versions:
  3. Tobias J. Moskowitz & Annette Vissing-Jorgensen, 2002. "The Returns to Entrepreneurial Investment: A Private Equity Premium Puzzle?," American Economic Review, American Economic Association, vol. 92(4), pages 745-778, September. [Downloadable!] (restricted)
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  10. Stefania Albanesi & Christopher Sleet, 2006. "Dynamic Optimal Taxation with Private Information," Review of Economic Studies, Blackwell Publishing, vol. 73(1), pages 1-30, 01. [Downloadable!] (restricted)
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  11. Levhari, David & Srinivasan, T N, 1969. "Optimal Savings under Uncertainty," Review of Economic Studies, Blackwell Publishing, vol. 36(106), pages 153-63, April. [Downloadable!] (restricted)
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  13. Diamond, P. A. & Mirrlees, J. A., 1978. "A model of social insurance with variable retirement," Journal of Public Economics, Elsevier, vol. 10(3), pages 295-336, December. [Downloadable!] (restricted)
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  14. Mikhail Golosov & Aleh Tsyvinski, 2006. "Optimal Taxation with Endogenous Insurance Markets," Levine's Bibliography 784828000000000445, UCLA Department of Economics. [Downloadable!]
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  15. Mirrlees, James A, 1971. "An Exploration in the Theory of Optimum Income Taxation," Review of Economic Studies, Blackwell Publishing, vol. 38(114), pages 175-208, April. [Downloadable!] (restricted)
  16. Poterba, James M., 2002. "Taxation, risk-taking, and household portfolio behavior," Handbook of Public Economics, in: A. J. Auerbach & M. Feldstein (ed.), Handbook of Public Economics, edition 1, volume 3, chapter 17, pages 1109-1171 Elsevier. [Downloadable!] (restricted)
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  17. Rogerson, William P, 1985. "Repeated Moral Hazard," Econometrica, Econometric Society, vol. 53(1), pages 69-76, January. [Downloadable!] (restricted)
  18. Narayana R. Kocherlakota, 2005. "Zero Expected Wealth Taxes: A Mirrlees Approach to Dynamic Optimal Taxation," Econometrica, Econometric Society, vol. 73(5), pages 1587-1621, 09. [Downloadable!] (restricted)
    Other versions:
  19. Mikhail Golosov & Aleh Tsyvinski, 2006. "Designing Optimal Disability Insurance: A Case for Asset Testing," Journal of Political Economy, University of Chicago Press, vol. 114(2), pages 257-279, April. [Downloadable!] (restricted)
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  20. George-Marios Angeletos, 2007. "Uninsured Idiosyncratic Investment Risk and Aggregate Saving," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 10(1), pages 1-30, January. [Downloadable!] (restricted)
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  21. Roger H. Gordon & Joel Slemrod, 1989. "Do We Collect Any Revenue From Taxing Capital Income?," NBER Reprints 1214, National Bureau of Economic Research, Inc.
  22. Tobias J. Moskowitz & Annette Vissing-Jorgensen, 2002. "The Returns to Entrepreneurial Investment: A Private Equity Premium Puzzle?," NBER Working Papers 8876, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Borys Grochulski & Tomasz Piskorski, 2005. "Optimal wealth taxes with risky human capital," Working Paper 05-13, Federal Reserve Bank of Richmond. [Downloadable!]
    Other versions:
  2. Emmanuel Farhi & Mikhail Golosov & Aleh Tsyvinski, 2007. "A Theory of Liquidity and Regulation of Financial Intermediation," NBER Working Papers 12959, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
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