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Optimal Taxation and Monopsonistic Labor Market: Does Monopsony Justify the Minimum Wage?

  • Cahuc, Pierre


    (Ecole Polytechnique, Paris)

  • Laroque, Guy


    (Sciences Po, Paris)

We analyze optimal taxation in an economy with monopsonistic labor markets. The individuals, whose only decisions are whether to work, or not, have heterogeneous productivities and opportunity costs of work. Given its preferences for redistribution, the government, which does not observe the opportunity costs of work, chooses a tax scheme implementing the second best allocation. We compare the optima in the competitive and monopsonistic environments. We find that the government can always implement the second best allocation of the competitive economy in the monopsonistic environment. The optimal tax schedule comprises employment subsidies financed by taxes on profits. In this setup, there is no room for a minimum wage.

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Paper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 2955.

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Length: 26 pages
Date of creation: Jul 2007
Date of revision:
Handle: RePEc:iza:izadps:dp2955
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  1. Manning, Alan, 2011. "Imperfect Competition in the Labor Market," Handbook of Labor Economics, Elsevier.
  2. Rebitzer, James B. & Taylor, Lowell J., 1995. "The consequences of minimum wage laws Some new theoretical ideas," Journal of Public Economics, Elsevier, vol. 56(2), pages 245-255, February.
  3. Masters, Adrian M, 1999. "Wage Posting in Two-Sided Search and the Minimum Wage," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 40(4), pages 809-26, November.
  4. Guy Laroque, 2005. "Income Maintenance and Labor Force Participation," Econometrica, Econometric Society, vol. 73(2), pages 341-376, 03.
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  6. Hungerbühler, Mathias & Lehmann, Etienne, 2009. "On the optimality of a minimum wage: New insights from optimal tax theory," Journal of Public Economics, Elsevier, vol. 93(3-4), pages 464-481, April.
  7. Dolado, Juan J. & Felgueroso, Florentino & Jimeno, Juan F., 2000. "The Role of the Minimum Wage in the Welfare State: An Appraisal," IZA Discussion Papers 152, Institute for the Study of Labor (IZA).
  8. Robin Boadway & Katherine Cuff, 1999. "A Minimum Wage can be Welfare-Improving and Employment-Enhancing," Working Papers 980, Queen's University, Department of Economics.
  9. Philippe Choné & Guy Laroque, 2006. "Should Low Skilled Work be Subsidized ?," Working Papers 2006-08, Centre de Recherche en Economie et Statistique.
  10. Bhaskar, V & To, Ted, 1999. "Minimum Wages for Ronald McDonald Monopsonies: A Theory of Monopsonistic Competition," Economic Journal, Royal Economic Society, vol. 109(455), pages 190-203, April.
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  18. Flinn, Christopher, 2003. "Minimum Wage Effects on Labor Market Outcomes under Search with Bargaining," IZA Discussion Papers 949, Institute for the Study of Labor (IZA).
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  20. Drazen, Allan, 1986. "Optimal Minimum Wage Legislation," Economic Journal, Royal Economic Society, vol. 96(383), pages 774-84, September.
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