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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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  2. V. Bhaskar & Ted To, 1996. "Minimum Wages for Ronald McDonald Monopsonies: A Theory of Monopsonistic Competition," Labor and Demography 9603001, EconWPA, revised 21 May 1996.
  3. Robin Boadway & Katherine Cuff, 1999. "A Minimum Wage can be Welfare-Improving and Employment-Enhancing," Working Papers 980, Queen's University, Department of Economics.
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  9. 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.
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  19. Alan Manning, 1994. "How do we Know that Real Wages are Too High?," CEP Discussion Papers dp0195, Centre for Economic Performance, LSE.
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