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Optimal Dynamic Nonlinear Income Taxation Under Loose Commitment

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  • Guo, Jang-Ting
  • Krause, Alan

Abstract

This paper examines an infinite-horizon model of nonlinear income taxation in which the probability that the government can commit is high, but not certain. In this “loose commitment” environment, we find that even a little uncertainty over whether the government can commit yields substantial effects on the optimal dynamic nonlinear income tax system. This result holds even though separating taxation remains optimal, as in the case of full commitment. Under an empirically plausible parameterization, our numerical simulations show that high-skilled individuals must be subsidized in the short run, despite the government's redistributive objective, unless the probability of commitment is higher than 98%. Loose commitment also reverses the short-run welfare effects of changes in most of the model's parameters, and yields some counterintuitive outcomes. For example, all individuals are worse off, rather than better off, in the short run when the proportion of high-skilled individuals in the economy increases.

Suggested Citation

  • Guo, Jang-Ting & Krause, Alan, 2014. "Optimal Dynamic Nonlinear Income Taxation Under Loose Commitment," Macroeconomic Dynamics, Cambridge University Press, vol. 18(6), pages 1403-1427, September.
    • Handle: RePEc:cup:macdyn:v:18:y:2014:i:06:p:1403-1427_00
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    Cited by:

    1. Jang-Ting Guo & Alan Krause, 2018. "Changing social preferences and optimal redistributive taxation," Oxford Economic Papers, Oxford University Press, vol. 70(1), pages 73-92.
    2. Guo, Jang-Ting & Krause, Alan, 2015. "Dynamic income taxation without commitment: Comparing alternative tax systems," Economic Modelling, Elsevier, vol. 47(C), pages 319-326.
    3. Alan Krause, 2017. "On redistributive taxation under the threat of high-skill emigration," Social Choice and Welfare, Springer;The Society for Social Choice and Welfare, vol. 48(4), pages 845-856, April.
    4. Yuhn, Ky-hyang & Bennett, Christopher S., 2016. "A Note On The Bush Tax Cuts: Did They Succeed In Stimulating Business Investment?," Macroeconomic Dynamics, Cambridge University Press, vol. 20(6), pages 1623-1639, September.
    5. Chen, Yunmin & Guo, Jang-Ting & Krause, Alan, 2020. "The credibility of commitment and optimal nonlinear savings taxation," Journal of Macroeconomics, Elsevier, vol. 65(C).
    6. Shigeo Morita & Takuya Obara, 2021. "Public investment criteria under optimal nonlinear income taxation without commitment," Journal of Public Economic Theory, Association for Public Economic Theory, vol. 23(4), pages 732-745, August.

    More about this item

    JEL classification:

    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
    • H24 - Public Economics - - Taxation, Subsidies, and Revenue - - - Personal Income and Other Nonbusiness Taxes and Subsidies

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