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Optimal Redistribution and Monitoring of Labor Effort

Author

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  • Zoutman, Floris T.

    (Dept. of Business and Management Science, Norwegian School of Economics)

  • Jacobs, Bas

    (Dept. of Economics, Erasmus University Rotterdam)

Abstract

This paper extends the Mirrlees (1971) model of optimal non-linear income taxation with a monitoring technology that allows the government to verify labor effort at a positive, but non-infinite cost. We analyze the joint determination of the non-linear monitoring and tax schedules and the conditions under which these can be implemented. Monitoring of labor effort reduces the distortions created by income taxation and raises optimal marginal tax rates, possibly above 100 percent. The optimal intensity of monitoring increases with the marginal tax rate and the labor-supply elasticity. Our simulations demonstrate that monitoring strongly alleviates the trade-off between equity and efficiency as welfare gains of monitoring are around 1.4 percent of total output. The optimal intensity of monitoring follows a U-shaped pattern, similar to that of optimal marginal tax rates. Our paper can explain why large welfare states optimally rely on work-dependent tax credits, active labormarket policies, benefit sanctions and work bonuses in welfare programs to redistribute income efficiently.

Suggested Citation

  • Zoutman, Floris T. & Jacobs, Bas, 2014. "Optimal Redistribution and Monitoring of Labor Effort," Discussion Papers 2014/33, Norwegian School of Economics, Department of Business and Management Science.
    • Handle: RePEc:hhs:nhhfms:2014_033
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    File URL: http://hdl.handle.net/11250/223707
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    Cited by:

    1. Bas Jacobs, 2013. "From Optimal Tax Theory to Applied Tax Policy," FinanzArchiv: Public Finance Analysis, Mohr Siebeck, Tübingen, vol. 69(3), pages 338-389, September.

    More about this item

    Keywords

    Optimal non-linear taxation; monitoring; costly verification ability/effort; optimal redistribution;
    All these keywords.

    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
    • H26 - Public Economics - - Taxation, Subsidies, and Revenue - - - Tax Evasion and Avoidance
    • H31 - Public Economics - - Fiscal Policies and Behavior of Economic Agents - - - Household

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