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On the Optimality of Progressive Income Redistribution

  • Markus Poschke

    (McGill)

  • Baris Kaymak

    (Universite de Montreal)

  • Ozan Bakis

    (Galatasaray University Economic Research Center (GIAM),)

We compute the optimal non-linear tax policy in a dynastic economy with unin- surable risk, where generations are linked by dynastic wealth accumulation and corre- lated incomes. Unlike earlier studies, we find that the optimal tax policy is moderately regressive. Regressive taxes lead to higher output and consumption, at the expense of larger after-tax income inequality. Nevertheless, the availability of self-insurance via bequests, in particular, mitigates the impact of regressive taxes on consumption in- equality, resulting in improved average welfare overall. We also consider the optimal once-and-for-all change in the tax system, taking into account the transition dynamics. We find, given the current wealth and income distribution in the US, that the optimal tax system is not far from the existing tax schedule.

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Paper provided by Society for Economic Dynamics in its series 2012 Meeting Papers with number 837.

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Date of creation: 2012
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Handle: RePEc:red:sed012:837
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Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA

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  1. Conesa, Juan Carlos & Krueger, Dirk, 2005. "On the optimal progressivity of the income tax code," CFS Working Paper Series 2005/10, Center for Financial Studies (CFS).
  2. Juan Carlos Conesa & Sagiri Kitao & Dirk Krueger, 2009. "Taxing Capital? Not a Bad Idea after All!," American Economic Review, American Economic Association, vol. 99(1), pages 25-48, March.
  3. Erosa, Andres & Koreshkova, Tatyana, 2007. "Progressive taxation in a dynastic model of human capital," Journal of Monetary Economics, Elsevier, vol. 54(3), pages 667-685, April.
  4. Kjetil Storesletten & Giovanni L. Violante & Jonathan Heathcote, 2010. "Redistributive Taxation in a Partial-Insurance Economy," 2010 Meeting Papers 1124, Society for Economic Dynamics.
  5. Krueger, Dirk & Perri, Fabrizio, 2010. "Public versus Private Risk Sharing," CEPR Discussion Papers 7625, C.E.P.R. Discussion Papers.
  6. Mikhail Golosov & Aleh Tsyvinski, 2007. "Optimal Taxation with Endogenous Insurance Markets," The Quarterly Journal of Economics, Oxford University Press, vol. 122(2), pages 487-534.
  7. repec:oup:restud:v:68:y:2001:i:1:p:205-29 is not listed on IDEAS
  8. Kjetil Storesletten & Chris I. Telmer & Amir Yaron, 2000. "Consumption and Risk Sharing Over the Life Cycle," NBER Working Papers 7995, National Bureau of Economic Research, Inc.
  9. Steven J. Haider, 2000. "Earnings Instability and Earnings Inequality of Males in the United States: 1967-1991," Working Papers 00-15, RAND Corporation Publications Department.
  10. Daniel Feenberg & Elisabeth Coutts, 1993. "An introduction to the TAXSIM model," Journal of Policy Analysis and Management, John Wiley & Sons, Ltd., vol. 12(1), pages 189-194.
  11. S. Rao Aiyagari, 1994. "Uninsured Idiosyncratic Risk and Aggregate Saving," The Quarterly Journal of Economics, Oxford University Press, vol. 109(3), pages 659-684.
  12. repec:oup:restud:v:38:y:1971:i:114:p:175-208 is not listed on IDEAS
  13. Emmanuel Saez, 2001. "Using Elasticities to Derive Optimal Income Tax Rates," Review of Economic Studies, Oxford University Press, vol. 68(1), pages 205-229.
  14. Seshadri, Ananth & Yuki, Kazuhiro, 2004. "Equity and efficiency effects of redistributive policies," Journal of Monetary Economics, Elsevier, vol. 51(7), pages 1415-1447, October.
  15. David M. Cutler & Jonathan Gruber, 1996. "Does Public Insurance Crowd out Private Insurance?," The Quarterly Journal of Economics, Oxford University Press, vol. 111(2), pages 391-430.
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