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Direct or indirect tax instruments for redistribution: short-run versus long-run


  • Saez, Emmanuel


Optimal tax theory has shown that, under weak assumptions, indirect taxation such as production subsidies, tariffs, or differentiated commodity taxation, are sub-optimal and that redistribution should be achieved solely with the direct income tax. However, these important results of optimal tax theory, namely production efficiency and uniform commodity taxation under non-linear income taxation, have been shown to break down when labor taxation is based on income only and when there is imperfect substitution of labor types in the production function. These results in favor of indirect tax instruments are valid in the short-run when skills are exogenous and individuals cannot move from occupation to occupation. In the long-run, it is more realistic to assume that individuals choose their occupation based on the relative after-tax rewards. This paper shows that, in that context, production efficiency and the uniform commodity tax result are restored. Therefore, in a long-run context, direct income taxation should be preferred to indirect tax instruments to raise revenue and achieve redistribution.
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Suggested Citation

  • Saez, Emmanuel, 2004. "Direct or indirect tax instruments for redistribution: short-run versus long-run," Journal of Public Economics, Elsevier, vol. 88(3-4), pages 503-518, March.
  • Handle: RePEc:eee:pubeco:v:88:y:2004:i:3-4:p:503-518

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    References listed on IDEAS

    1. Bruce D. Meyer & Dan T. Rosenbaum, 2001. "Welfare, the Earned Income Tax Credit, and the Labor Supply of Single Mothers," The Quarterly Journal of Economics, Oxford University Press, vol. 116(3), pages 1063-1114.
    2. Gruber, Jon & Saez, Emmanuel, 2002. "The elasticity of taxable income: evidence and implications," Journal of Public Economics, Elsevier, vol. 84(1), pages 1-32, April.
    3. Saez, Emmanuel, 2002. "The desirability of commodity taxation under non-linear income taxation and heterogeneous tastes," Journal of Public Economics, Elsevier, vol. 83(2), pages 217-230, February.
    4. Blundell, Richard & Macurdy, Thomas, 1999. "Labor supply: A review of alternative approaches," Handbook of Labor Economics,in: O. Ashenfelter & D. Card (ed.), Handbook of Labor Economics, edition 1, volume 3, chapter 27, pages 1559-1695 Elsevier.
    5. Christiansen, Vidar, 1984. "Which commodity taxes should supplement the income tax?," Journal of Public Economics, Elsevier, vol. 24(2), pages 195-220, July.
    6. Naito, Hisahiro, 1999. "Re-examination of uniform commodity taxes under a non-linear income tax system and its implication for production efficiency," Journal of Public Economics, Elsevier, vol. 71(2), pages 165-188, February.
    7. Seade, J. K., 1977. "On the shape of optimal tax schedules," Journal of Public Economics, Elsevier, vol. 7(2), pages 203-235, April.
    8. Naito, H., 1996. "Tariffs and Production Subsidies as Devices to Relax the Incentive Problem of a Progressive Income Tax System," Working Papers 391, Research Seminar in International Economics, University of Michigan.
    9. Peter A. Diamond, 1982. "Protection, Trade Adjustment Assistance, and Income Distribution," NBER Chapters,in: Import Competition and Response, pages 123-150 National Bureau of Economic Research, Inc.
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    11. Feldstein, Martin, 1995. "Effect of Marginal Tax Rates on Taxable Income: A Panel Study of the 1986 Tax Reform Act," Scholarly Articles 2766676, Harvard University Department of Economics.
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    14. Roger Guesnerie, 1998. "Peut-on toujours redistribuer les gains à la spécialisation et à l'échange ? Un retour en pointillé sur Ricardo et Heckscher-Ohlin," Revue Économique, Programme National Persée, vol. 49(3), pages 555-579.
    15. Emmanuel Saez, 2002. "Optimal Income Transfer Programs: Intensive versus Extensive Labor Supply Responses," The Quarterly Journal of Economics, Oxford University Press, vol. 117(3), pages 1039-1073.
    16. Diamond, Peter A & Mirrlees, James A, 1971. "Optimal Taxation and Public Production II: Tax Rules," American Economic Review, American Economic Association, vol. 61(3), pages 261-278, June.
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    19. repec:fth:michin:391 is not listed on IDEAS
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    More about this item

    JEL classification:

    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
    • H23 - Public Economics - - Taxation, Subsidies, and Revenue - - - Externalities; Redistributive Effects; Environmental Taxes and Subsidies


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