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Optimum Income Taxation when Earnings are Imperfectly Correlated with Productivity

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  • David Bevan

Abstract

Probably the most enduring result in the theory of optimum income taxation is that, for a sufficiently thin upper tail to the skill distribution, the marginal tax rate should fall rather than rise with income. This paper shows that this result is highly sensitive to a very strong informational assumption, namely that earnings exactly reflect a worker`s contribution to output. While the formal structure of the optimum problem is altered only slightly when earnings are allowed to be less than perfectly correlated with productivity, the shape of the optimum schedule is very sensitive to this relaxation. For high but imperfect correlation, optimum schedules look rather like those traditionally chosen by governments, with the marginal rate rising over high incomes and possibly U-shaped over the whole distribution.

Suggested Citation

  • David Bevan, 2002. "Optimum Income Taxation when Earnings are Imperfectly Correlated with Productivity," Economics Series Working Papers 101, University of Oxford, Department of Economics.
    • Handle: RePEc:oxf:wpaper:101
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    File URL: https://ora.ox.ac.uk/objects/uuid:75a53608-b330-4837-84c4-550c25d1d511
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    References listed on IDEAS

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    1. Tuomala, Matti, 1990. "Optimal Income Tax and Redistribution," OUP Catalogue, Oxford University Press, number 9780198286059.
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    Cited by:

    1. Matti Tuomala, 2010. "On optimal non-linear income taxation: numerical results revisited," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 17(3), pages 259-270, June.

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    More about this item

    Keywords

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    JEL classification:

    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design

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