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Discreteness and the Welfare Cost of Labor Supply Tax Distortions

  • Keshab Bhattarai
  • John Whalley

We compare the welfare costs of tax distortions of labor supply in one- and two-member household discrete and continuous choice labor supply (leisure consumption) models calibrated to the same aggregate uncompensated labor supply elasticities. In the discrete models, taxes induce a large response from a subset of the population, whereas the majority of the population exhibits unchanged behavior. In contrast, the majority of the population reacts to tax changes in continuous models. Discrete choice matters as the welfare costs of similar taxes vary significantly when individuals face discrete labor supply choices from when they choose working hours continuously. Copyright 2003 By The Economics Department Of The University Of Pennsylvania And Osaka University Institute Of Social And Economic Research Association.

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Article provided by Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association in its journal International Economic Review.

Volume (Year): 44 (2003)
Issue (Month): 3 (08)
Pages: 1117-1133

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Handle: RePEc:ier:iecrev:v:44:y:2003:i:3:p:1117-1133
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  1. Rosen, Harvey S, 1976. "Taxes in a Labor Supply Model with Joint Wage-Hours Determination," Econometrica, Econometric Society, vol. 44(3), pages 485-507, May.
  2. Stewart, Mark B & Swaffield, Joanna K, 1997. "Constraints on the Desired Hours of Work of British Men," Economic Journal, Royal Economic Society, vol. 107(441), pages 520-35, March.
  3. John Piggott & John Whalley, 1994. "The Tax Unit and Household Production," NBER Working Papers 4820, National Bureau of Economic Research, Inc.
  4. Kahn, Shulamit & Lang, Kevin, 1991. "The Effect of Hours Constraints on Labor Supply Estimates," The Review of Economics and Statistics, MIT Press, vol. 73(4), pages 605-11, November.
  5. William T. Dickens & Shelly J. Lundberg, 1985. "Hours Restrictions and Labor Supply," NBER Working Papers 1638, National Bureau of Economic Research, Inc.
  6. Cogan, John F, 1981. "Fixed Costs and Labor Supply," Econometrica, Econometric Society, vol. 49(4), pages 945-63, June.
  7. Thomas MaCurdy & David Green & Harry Paarsch, 1990. "Assessing Empirical Approaches for Analyzing Taxes and Labor Supply," Journal of Human Resources, University of Wisconsin Press, vol. 25(3), pages 415-490.
  8. 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.
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  10. Hansen, Gary D., 1985. "Indivisible labor and the business cycle," Journal of Monetary Economics, Elsevier, vol. 16(3), pages 309-327, November.
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  12. Martijn P. Tummers & Isolde Woittiez, 1991. "A Simultaneous Wage and Labor Supply Model with Hours Restrictions," Journal of Human Resources, University of Wisconsin Press, vol. 26(3), pages 393-423.
  13. Richard Blundell, 1992. "Labour supply and taxation: a survey," Fiscal Studies, Institute for Fiscal Studies, vol. 13(3), pages 15-40, January.
  14. Ian Walker & Ian Preston, 1999. "Welfare measurement in labour supply models with nonlinear budget constraints," Journal of Population Economics, Springer, vol. 12(3), pages 343-361.
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