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Constrained inefficiency and optimal taxation with uninsurable risks

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  • Piero Gottardi
  • Atsushi Kajii
  • Tomoyuki Nakajima

Abstract

When individuals' labor and capital income are subject to uninsurable idiosyncratic risks, should capital and labor be taxed, and if so how? In a two period general equilibrium model with production, we derive a decomposition formula of the welfare e ects of these taxes into insurance and distribution e ects. This allows us to determine how the sign of the optimal taxes on capital and labor depend on the nature of the shocks, the degree of heterogeneity among consumers' income as well as on the way in which the tax revenue is used to provide lump sum transfers to consumers. When shocks a ect primarily labor income and heterogeneity is small, the optimal tax on capital is positive. However in other cases a negative tax on capital is welfare improving.

Suggested Citation

  • Piero Gottardi & Atsushi Kajii & Tomoyuki Nakajima, 2014. "Constrained inefficiency and optimal taxation with uninsurable risks," CIGS Working Paper Series 14-002E, The Canon Institute for Global Studies.
    • Handle: RePEc:cnn:wpaper:14-002e
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    Cited by:

    1. Nakajima, Tomoyuki & Takahashi, Shuhei, 2017. "The optimum quantity of debt for Japan," Journal of the Japanese and International Economies, Elsevier, vol. 46(C), pages 17-26.
    2. Piero Gottardi & Atsushi Kajii & Tomoyuki Nakajima, 2015. "Optimal Taxation and Debt with Uninsurable Risks to Human Capital Accumulation," American Economic Review, American Economic Association, vol. 105(11), pages 3443-3470, November.
    3. Piero Gottardi & Atsushi Kajii & Tomoyuki Nakajima, 2010. "Optimal taxation and constrained inefficiency in an infinite-horizon economy with incomplete markets," KIER Working Papers 745, Kyoto University, Institute of Economic Research.
    4. Sigrid Röhrs & Christoph Winter, 2011. "Wealth inequality and the optimal level of government debt," ECON - Working Papers 051, Department of Economics - University of Zurich.
    5. Marco Bassetto & Wei Cui, 2020. "A Ramsey Theory of Financial Distortions," Working Papers 775, Federal Reserve Bank of Minneapolis.
    6. Hisahiro Naito, 2018. "Welfare-improving Consumption Tax in the Presence of Wage Tax under Idiosyncratic Returns from Investment and Incomplete Markets," Tsukuba Economics Working Papers 2018-002, Faculty of Humanities and Social Sciences, University of Tsukuba.
    7. Richard Jaimes, 2021. "Does idiosyncratic risk matter for climate policy?," Vniversitas Económica 19276, Universidad Javeriana - Bogotá.
    8. YiLi Chien & Yi Wen, 2022. "Optimal Ramsey Taxation in Heterogeneous Agent Economies with Quasi-Linear Preferences," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 46, pages 124-160, October.
    9. Sakai Ando, 2017. "Size-Dependent Policies and Efficient Firm Creation," ISER Discussion Paper 1033, Institute of Social and Economic Research, Osaka University, revised Jun 2018.
    10. Yena Park, 2014. "Constrained Efficiency in a Risky Human Capital Model," RCER Working Papers 585, University of Rochester - Center for Economic Research (RCER).
    11. Ando, Sakai & Matsumura, Misaki, 2020. "Constrained inefficiency of competitive entrepreneurship," Journal of Mathematical Economics, Elsevier, vol. 88(C), pages 98-103.
    12. Acikgoz, Omer, 2013. "Transitional Dynamics and Long-run Optimal Taxation Under Incomplete Markets," MPRA Paper 50160, University Library of Munich, Germany.
    13. Li, Meng, 2023. "Loss aversion and inefficient general equilibrium over the business cycle," Economic Modelling, Elsevier, vol. 118(C).
    14. HIRAGUCHI Ryoji, 2023. "Optimal Government Debt Policy in the Overlapping Generations Model with Idiosyncratic Capital Return Risk," Discussion papers 23063, Research Institute of Economy, Trade and Industry (RIETI).

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    More about this item

    JEL classification:

    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation

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