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Optimal Nonlinear Taxation of Income and Savings in a Two Class Economy

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  • Craig Brett

    ()
    (Department of Economics, Mount Allison University)

  • John A. Weymark

    ()
    (Department of Economics, Vanderbilt University)

Abstract

Optimal nonlinear taxation of income and savings is considered in a two-period model with two individuals who have additively separable preferences and who only differ in their skill levels. When the government can commit to its second period policy, taxes on savings do not form part of the optimal tax mix. When commitment is not possible, the optimal tax scheme distorts private savings behavior. If the types are separated in period one, it is optimal to subsidize the savings of both types of individual at the margin. If the types are pooled in period one, it is optimal for the low-skilled (high-skilled) individual to face a marginal savings tax (subsidy). In both cases, the subsidy to the high-skilled individual helps offset his disincentive to save that arises because some of his savings will be redistributed to the low-skilled individual in the second period. The savings of the low-skilled individual in the separating case are taxed so as to relax an incentive compatibility constraint.

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File URL: http://www.accessecon.com/pubs/VUECON/vu05-w25R.pdf
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Bibliographic Info

Paper provided by Vanderbilt University Department of Economics in its series Vanderbilt University Department of Economics Working Papers with number 0525.

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Date of creation: Nov 2005
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Handle: RePEc:van:wpaper:0525

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Web page: http://www.vanderbilt.edu/econ/wparchive/index.html

Related research

Keywords: Asymmetric information; commitment; dynamic optimal taxation; optimal income taxation; savings taxation; time consistency;

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References

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  1. Pirttila, Jukka & Tuomala, Matti, 2001. "On optimal non-linear taxation and public good provision in an overlapping generations economy," Journal of Public Economics, Elsevier, Elsevier, vol. 79(3), pages 485-501, March.
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  3. Dillen, Mats & Lundholm, Michael, 1996. "Dynamic income taxation, redistribution, and the ratchet effect," Journal of Public Economics, Elsevier, Elsevier, vol. 59(1), pages 69-93, January.
  4. Berliant, Marcus & Ledyard, John, 2011. "Optimal Dynamic Nonlinear Income Taxes with No Commitment," MPRA Paper 31749, University Library of Munich, Germany.
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  8. Ordover, J. A. & Phelps, E. S., 1979. "The concept of optimal taxation in the overlapping-generations model of capital and wealth," Journal of Public Economics, Elsevier, Elsevier, vol. 12(1), pages 1-26, August.
  9. Roberts, Kevin, 1984. "The Theoretical Limits of Redistribution," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 51(2), pages 177-95, April.
  10. Tuomala, Matti, 1990. "Optimal Income Tax and Redistribution," OUP Catalogue, Oxford University Press, Oxford University Press, number 9780198286059, October.
  11. Mirrlees, James A, 1971. "An Exploration in the Theory of Optimum Income Taxation," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 38(114), pages 175-208, April.
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  13. Boadway, R. & Marceau, N. & Marchand, M., . "Investment in education and the time inconsistency of redistributive tax policy," CORE Discussion Papers RP, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE) -1219, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
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  15. Guesnerie Roger & Seade Jesus, 1981. "Nonlinear pricing in a finite economy," CEPREMAP Working Papers (Couverture Orange) 8118, CEPREMAP.
  16. Craig Brett & John A. Weymark, 2008. "Public Good Provision And The Comparative Statics Of Optimal Nonlinear Income Taxation," 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. 49(1), pages 255-290, 02.
  17. HAMILTON, Jonathan & PESTIEAU, Pierre, 2002. "Optimal income taxation and the ability distribution: implications for migration equilibria," CORE Discussion Papers, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE) 2002036, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
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Cited by:
  1. Johann K. Brunner & Susanne Pech, 2006. "Optimum Taxation of Life Annuities," CESifo Working Paper Series 1642, CESifo Group Munich.
  2. Lasse Frisgaard Gunnersen & Bo Sandemann Rasmussen, 2012. "Optimal Tax-Transfer Policies, Life-Cycle Labour Supply and Present-Biased Preferences," Economics Working Papers, School of Economics and Management, University of Aarhus 2012-12, School of Economics and Management, University of Aarhus.

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