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Taxing Top Incomes in a World of Ideas

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  • Charles I. Jones

Abstract

This paper considers the taxation of top incomes when the following conditions apply: (i) new ideas drive economic growth, (ii) the reward for creating a successful innovation is a top income, and (iii) innovation cannot be perfectly targeted by a separate research subsidy --- think about the business methods of Walmart, the creation of Uber, or the "idea" of Amazon.com. These conditions lead to a new force affecting the optimal top tax rate: by slowing the creation of the new ideas that drive aggregate GDP, top income taxation reduces everyone's income, not just the income at the top. When the creation of ideas is the ultimate source of economic growth, this force sharply constrains both revenue-maximizing and welfare-maximizing top tax rates. For example, for extreme parameter values, maximizing the welfare of the middle class requires a negative top tax rate: the higher income that results from the subsidy to innovation more than makes up for the lost redistribution. More generally, the calibrated model suggests that incorporating ideas as a driver of economic growth cuts the optimal top marginal tax rate substantially relative to the basic Saez calculation.

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  • Charles I. Jones, 2019. "Taxing Top Incomes in a World of Ideas," NBER Working Papers 25725, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:25725
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    1. Dominik Sachs & Aleh Tsyvinski & Nicolas Werquin, 2020. "Nonlinear Tax Incidence and Optimal Taxation in General Equilibrium," Econometrica, Econometric Society, vol. 88(2), pages 469-493, March.
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    3. Advani, Arun & Koenig, Felix & Pessina, Lorenzo & Summers, Andy, 2020. "Importing Inequality: Immigration and the Top 1 Percent," IZA Discussion Papers 13731, Institute of Labor Economics (IZA).
    4. Jonas Loebbing, 2020. "Redistributive Income Taxation with Directed Technical Change," CESifo Working Paper Series 8743, CESifo.
    5. Kevin X. D. Huang & Munechika Katayama & Mototsugu Shintani & Takayuki Tsuruga, 2022. "Sticky wages in a world of ideas," Economic Inquiry, Western Economic Association International, vol. 60(4), pages 1757-1781, October.
    6. Erzo G. J. Luttmer, 2021. "Dynamic Urn-Ball Discovery," Working Papers 789, Federal Reserve Bank of Minneapolis.
    7. Joshua Rauh & Ryan J. Shyu, 2019. "Behavioral Responses to State Income Taxation of High Earners: Evidence from California," NBER Working Papers 26349, National Bureau of Economic Research, Inc.
    8. Sergio Ocampo & Fatih Guvenen & Gueorgui Kambourov & Burhan Kuruscu & Daphne Chen, 2022. "Use It or Lose It: Efficiency and Redistributional Effects of Wealth Taxation," University of Western Ontario, Departmental Research Report Series 202214, University of Western Ontario, Department of Economics.
    9. Gross, Till & Klein, Paul, 2022. "Optimal tax policy and endogenous growth through innovation," Journal of Public Economics, Elsevier, vol. 209(C).

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    More about this item

    JEL classification:

    • E0 - Macroeconomics and Monetary Economics - - General
    • H2 - Public Economics - - Taxation, Subsidies, and Revenue
    • O4 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity

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