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Taxation and Risk Taking: A General Equilibrium Perspective

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Louis Kaplow

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Abstract

Taxation and risk taking are examined in a general equilibrium model that incorporates uncertain government revenue in a nonrestrictive manner and allows the government to influence its revenue through portfolio investments as well as through tax policy. It is demonstrated that each of a wide range of taxes can be decomposed into some combination of a wage tax, an ex ante wealth tax, and a modification of the government's investment portfolio. For example, a tax on investment returns (from risky and riskless assets) is equivalent, with an adjustment in the government's portfolio, to a tax on the riskless component of investment returns or to an ex ante wealth tax -- both of which absorb no private risk and yield certain revenue. The concept of equivalence employed is strong: two regimes are equivalent if, for each state of nature, individuals' wealth and government revenue are the same under both regimes and total investment in each asset is the same. Implications for behavior (private and total risk taking) and welfare are immediate. Moreover, these results are independent of the government's objective function, the manner in which individual utility depends on government expenditures, and some of the restrictive assumptions found necessary in previous treatments of the problem.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 3709.

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Date of creation: Feb 1995
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Handle: RePEc:nbr:nberwo:3709

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Find related papers by JEL classification:
H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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  1. Francesco Menoncin & Paolo M. Panteghini, 2008. "The Johansson-Samuelson Theorem in General Equilibrium: A Rebuttal," Working Papers 0806, University of Brescia, Department of Economics. [Downloadable!]
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  2. Henrekson, Magnus & Sanandaji, Tino, 2008. "Entrepreneurship and the Theory of Taxation," Working Paper Series 732, Research Institute of Industrial Economics, revised 19 Aug 2009. [Downloadable!]
  3. David F. Bradford, 1997. "Fixing Capital Gains: Symmetry, Consistency and Correctness in the Taxation of Financial Instruments," NBER Working Papers 5754, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  4. Alan A. Auerbach & David F. Bradford, 2001. "Generalized Cash Flow Taxation," NBER Working Papers 8122, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  5. Syed Ahsan & Panagiotis Tsigaris, 2003. "Choice of Tax Base Revisited: Cash Flow vs. Prepayment Approaches to Consumption Taxation," CESifo Working Paper Series CESifo Working Paper No. , CESifo Group Munich. [Downloadable!]
  6. Michael R. Powers & David M. Schizer & Martin Shubik, 2003. "Market Bubbles and Wasteful Avoidance: Tax and Regulatory Constraints on Short Sales," Cowles Foundation Discussion Papers 1413, Cowles Foundation, Yale University. [Downloadable!]
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  7. Schindler, Dirk, 2008. "Human Capital, Multiple Income Risk and Social Insurance," Discussion Papers 2008/18, Department of Finance and Management Science, Norwegian School of Economics and Business Administration. [Downloadable!]
  8. Jeff Huther, 1999. "An Integrated Approach to Government Financial Policy," Treasury Working Paper Series 99/08, New Zealand Treasury. [Downloadable!]
  9. Alan J. Auerbach, 2006. "The Choice Between Income and Consumption Taxes: A Primer," NBER Working Papers 12307, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  10. Dirk Schindler, 2006. "Optimal Income Taxation with a Risky Asset – The Triple Income Tax," CESifo Working Paper Series CESifo Working Paper No. , CESifo Group Munich. [Downloadable!]
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  11. Clemens Sialm, 2002. "Stochastic Taxation and Asset Pricing in Dynamic General Equilibrium," NBER Working Papers 9301, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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