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Preference Heterogeneity and Optimal Capital Income Taxation

  • Mikhail Golosov
  • Maxim Troshkin
  • Aleh Tsyvinski
  • Matthew Weinzierl

We examine a prominent justification for capital income taxation: goods preferred by those with high ability ought to be taxed. In an environment where commodity taxes are allowed to be nonlinear functions of income and consumption, we derive an analytical expression that reveals the forces determining optimal commodity taxation. We then calibrate the model to evidence on the relationship between skills and preferences and extensively examine the quantitative case for taxes on future consumption (saving). In our baseline case of a unit intertemporal elasticity, optimal capital income tax rates are 2% on average and 4.5% on high earners. We find that the intertemporal elasticity of substitution has a substantial effect on optimal capital taxation. If the intertemporal elasticity is one-third, optimal capital income tax rates rise to 15% on average and 23% on high earners; if the intertemporal elasticity is two, optimal rates fall to 0.6% on average and 1.6% on high earners. Nevertheless, in all cases that we consider the welfare gains of using optimal capital taxes are small.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 16619.

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Date of creation: Dec 2010
Publication status: published as Golosov, Mikhail & Troshkin, Maxim & Tsyvinski, Aleh & Weinzierl, Matthew, 2013. "Preference heterogeneity and optimal capital income taxation," Journal of Public Economics, Elsevier, vol. 97(C), pages 160-175.
Handle: RePEc:nbr:nberwo:16619
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