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Optimal Taxation of Entrepreneurial Capital with Private Information

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  • Stefania Albanesi

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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Bibliographic Info

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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Publication status: Forthcoming: Optimal Taxation of Entrepreneurial Capital with Private Information , Stefania Albanesi. in Trans-Atlantic Public Economics Seminar , Devereux and Gordon. 2014
Handle: RePEc:nbr:nberwo:12419

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  1. Emmanuel Farhi & Iván Werning, 2010. "Progressive Estate Taxation," The Quarterly Journal of Economics, MIT Press, vol. 125(2), pages 635-673, May.
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  7. Mikhail Golosov & Narayana Kocherlakota & Aleh Tsyvinski, 2003. "Optimal Indirect and Capital Taxation," Review of Economic Studies, Oxford University Press, vol. 70(3), pages 569-587.
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  19. 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.
  20. Christian Gollier, 2004. "The Economics of Risk and Time," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262572249, December.
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Cited by:
  1. da Costa, Carlos E. & Severo, Tiago, 2008. "Education, preferences for leisure and the optimal income tax schedule," Journal of Public Economics, Elsevier, vol. 92(1-2), pages 113-138, February.
  2. Borys Grochulski & Tomasz Piskorski, 2005. "Optimal wealth taxes with risky human capital," Working Paper 05-13, Federal Reserve Bank of Richmond.
  3. Catarina Reis & Vasia Panousi, 2012. "Optimal Capital Taxation with Idiosyncratic Investment Risk," 2012 Meeting Papers 732, Society for Economic Dynamics.
  4. N. Gregory Mankiw & Matthew Weinzierl & Danny Yagan, 2009. "Optimal Taxation in Theory and Practice," Journal of Economic Perspectives, American Economic Association, vol. 23(4), pages 147-74, Fall.
  5. Zhang, Yuzhe, 2009. "Dynamic contracting with persistent shocks," Journal of Economic Theory, Elsevier, vol. 144(2), pages 635-675, March.
  6. Tsyvinski, Aleh & Golosov, Mikhail & Farhi, Emmanuel, 2009. "A Theory of Liquidity and Regulation of Financial Intermediation," Scholarly Articles 4481504, Harvard University Department of Economics.
  7. Florian Scheuer, 2014. "Entrepreneurial Taxation with Endogenous Entry," American Economic Journal: Economic Policy, American Economic Association, vol. 6(2), pages 126-63, May.
  8. Vasia Panousi, 2008. "Capital Taxation with Entrepreneurial Risk," 2008 Meeting Papers 36, Society for Economic Dynamics.
  9. Césaire A. Meh & Yaz Terajima, 2009. "Uninsurable Investment Risks and Capital Income Taxation," Working Papers 09-3, Bank of Canada.

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