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Tax evasion, corruption, and the remuneration of heterogeneous inspectors

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  • Wane, Waly

Abstract

The author develops a general model for addressing the question of how to compensate tax inspectors in an economy where corruption is pervasive - a model that considers the existence of strategic transmission of information. Most of the literature on corruption assumes that the taxpayer and the tax inspector jointly decide on the income to report, which also determines the size of the bribe. In contrast, this model considers the more realistic case in which the taxpayer unilaterally chooses the income to report. The tax inspector cannot change the report and is faced with a binary choice: either he negotiates the bribe on the basis of the income report or he denounces the tax evader and therefore renounces the bribe. In his model, the optimal compensation scheme must take into account the strategic interaction between taxpayers and tax inspectors: a) Pure"tax farming"(paying tax inspectors a share of their tax collections) is optimal only when all tax inspectors are corruptible. b) When there are both honest and corruptible inspectors, the optimal compensation scheme lies between pure tax farming and a pure wage scheme. c) Paradoxically, when inspectors are hired beforehand, it may be optimal to offer contracts that attract corruptible inspectors but not honest ones.

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Bibliographic Info

Paper provided by The World Bank in its series Policy Research Working Paper Series with number 2394.

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Date of creation: 31 Jul 2000
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Handle: RePEc:wbk:wbrwps:2394

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Keywords: Banks&Banking Reform; Environmental Economics&Policies; Poverty Impact Evaluation; Economic Theory&Research; Business Environment; Environmental Economics&Policies; Business Environment; Economic Theory&Research; Poverty Impact Evaluation; Banks&Banking Reform;

References

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  1. Besley, Timothy & McLaren, John, 1993. "Taxes and Bribery: The Role of Wage Incentives," Economic Journal, Royal Economic Society, vol. 103(416), pages 119-41, January.
  2. Peter Stella, 1993. "Tax Farming: A Radical Solution for Developing Country Tax Problems?," IMF Staff Papers, Palgrave Macmillan, vol. 40(1), pages 217-225, March.
  3. Mailath, George J, 1987. "Incentive Compatibility in Signaling Games with a Continuum of Types," Econometrica, Econometric Society, vol. 55(6), pages 1349-65, November.
  4. Chander, Parkash & Wilde, Louis, 1992. "Corruption in tax administration," Journal of Public Economics, Elsevier, vol. 49(3), pages 333-349, December.
  5. Mookherjee, Dilip & Png, I P L, 1995. "Corruptible Law Enforcers: How Should They Be Compensated?," Economic Journal, Royal Economic Society, vol. 105(428), pages 145-59, January.
  6. Reinganum, Jennifer F & Wilde, Louis L, 1986. "Equilibrium Verification and Reporting Policies in a Model of Tax Compliance," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 27(3), pages 739-60, October.
  7. Hindriks, Jean & Keen, Michael & Muthoo, Abhinay, 1999. "Corruption, extortion and evasion," Journal of Public Economics, Elsevier, vol. 74(3), pages 395-430, December.
  8. David Kreps & Robert Wilson, 1998. "Sequential Equilibria," Levine's Working Paper Archive 237, David K. Levine.
  9. Cremer, H. & Marchand, M. & Pestieau, P., 1988. "Evading, Auditing And Taxing: The Equity-Compliance Tradeoff," Papers 401, Cornell - Department of Economics.
  10. Cho, In-Koo & Sobel, Joel, 1990. "Strategic stability and uniqueness in signaling games," Journal of Economic Theory, Elsevier, vol. 50(2), pages 381-413, April.
  11. Banks, Jeffrey S., 1990. "A model of electoral competition with incomplete information," Journal of Economic Theory, Elsevier, vol. 50(2), pages 309-325, April.
  12. Tirole, Jean, 1986. "Hierarchies and Bureaucracies: On the Role of Collusion in Organizations," Journal of Law, Economics and Organization, Oxford University Press, vol. 2(2), pages 181-214, Fall.
  13. E. Kohlberg & J.-F. Mertens, 1998. "On the Strategic Stability of Equilibria," Levine's Working Paper Archive 445, David K. Levine.
  14. Allingham, Michael G. & Sandmo, Agnar, 1972. "Income tax evasion: a theoretical analysis," Journal of Public Economics, Elsevier, vol. 1(3-4), pages 323-338, November.
  15. Cho, In-Koo & Kreps, David M, 1987. "Signaling Games and Stable Equilibria," The Quarterly Journal of Economics, MIT Press, vol. 102(2), pages 179-221, May.
  16. Tirole, Jean, 1991. "Collusion and the Theory of Organizations," IDEI Working Papers 9, Institut d'Économie Industrielle (IDEI), Toulouse.
  17. Graetz, Michael J. & Reinganum, Jennifer F. & Wilde, Louis L., . "The Tax Compliance Game: Toward an Interactive Theory of Law Enforcement," Working Papers 589, California Institute of Technology, Division of the Humanities and Social Sciences.
  18. Banks, Jeffrey S. & Sobel, Joel., 1985. "Equilibrium Selection in Signaling Games," Working Papers 565, California Institute of Technology, Division of the Humanities and Social Sciences.
  19. Sanchez, Isabel & Sobel, Joel, 1993. "Hierarchical design and enforcement of income tax policies," Journal of Public Economics, Elsevier, vol. 50(3), pages 345-369, March.
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Citations

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Cited by:
  1. Lipatov, Vilen, 2003. "Evolution of Tax Evasion," MPRA Paper 966, University Library of Munich, Germany, revised 06 Dec 2005.
  2. Maxim Bouev, 2005. "State Regulations, Job Search and Wage Bargaining: A Study in the Economics of the Informal Sector," William Davidson Institute Working Papers Series wp764, William Davidson Institute at the University of Michigan.
  3. Fadi KANSO, 2007. "Wages and Sanctions against Hierarchical Corruption," CAE Working Papers 51, Aix-Marseille Université, CERGAM.
  4. Escobari, Diego, 2011. "Imperfect Detection of Tax Evasion in a Corrupt Tax Administration," MPRA Paper 39198, University Library of Munich, Germany.
  5. Anastasios Xepapadeas & Yannis Petrohilos-Andrianos, . "On the Evolution of Compliance and Regulation with Tax Evading Agents," DEOS Working Papers 1325, Athens University of Economics and Business.
  6. Lipatov, Vilen, 2008. "Social Interaction in Tax Evasion," MPRA Paper 8829, University Library of Munich, Germany.

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