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Tax Deductions and the Marginal Welfare Cost of Taxation

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  • Ian Parry

Abstract

Recent work emphasizes the efficiency costs of tax deductions that distort the pattern of household spending. Using evidence on the sensitivity of taxable income to tax rates, this work suggests that the marginal welfare cost (MWC) of income taxes in the United States could be dramatically higher because of tax deductions, and might exceed unity. This paper develops an alternative approach for assessing the MWC using evidence on underlying parameters (e.g., labor supply elasticities, the demand elasticity for tax-favored goods). A MWC of around 0.3 to 0.5 seems more consistent with these parameter values, though this estimate is still significantly higher because of tax deductions. Copyright Kluwer Academic Publishers 2002

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  • Ian Parry, 2002. "Tax Deductions and the Marginal Welfare Cost of Taxation," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 9(5), pages 531-552, September.
    • Handle: RePEc:kap:itaxpf:v:9:y:2002:i:5:p:531-552
    DOI: 10.1023/A:1020992803400
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