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Social discounting, migration and optimal taxation of savings

Listed author(s):
  • Valeria DeBonis


  • Luca Spataro


The issue of inheritance taxation is very similar to that of capital income taxation, once they are analyzed within the optimal taxation framework: should one tax own future consumption and estate (i.e. perspective heirs’ consumption) more than own present consumption? As for capital income taxation, starting from the seminal works by Judd (1985) and Chamley (1986), the issue of dynamic optimal capital income taxation has been analyzed by a number of researchers. In particular, Judd (1999) has shown that the zero tax rate result stems from the fact that a tax on capital income is equivalent to a tax on future consumption: thus, capital income should not be taxed if the elasticity of consumption is constant over time. However, while in infinitely lived representative agent (ILRA) models this condition is necessarily satisfied in the long run, along the transition path, instead, it holds only if the utility function is assumed to be (weakly) separable in consumption and leisure and homothetic in consumption. Another source of taxation can derive from the presence of externalities, which gives room to nonzero taxation as a Pigouvian correction device. Abandoning the standard ILRA framework in favour of Overlapping Generation models with life cycle (OLG-LC) has delivered another important case of nonzero capital income taxation. This outcome can be understood by reckoning that in such a setup optimal consumption and labor (or, more precisely, the general equilibrium elasticity of consumption) are generally not constant over life and even at the steady state, due to life-cycle behavior. A similar reasoning can be applied to estate taxation. Note that this corresponds to a di erential treatment of savings for own future consumption, on the one hand, and of savings for bequest, on the other hand. Thus, the first aspect to note is that the optimality of a nonzero tax on capital income does not necessarily imply the optimality of a nonzero tax on estates. In fact the latter can be justified on arguments analogous to those presented above: a nonzero estate tax could stem either from the violation of (weak) separability between ”expenditure” on estate and (previous period) leisure or from a di erence between the donor’s and the donee’s general equilibrium elasticities of consumption, according to the framework being analyzed. Another reason for levying a tax on inheritance could be correcting for an externality. Atkinson (1971) and Stiglitz (1987) consider the positive externality deriving from the fact that transfers benefit those who receive them. Holtz-Eakin et al. (1993), Imbens et al. (1999), Joulfaian et al. (1994) consider instead the negative externality deriving, in the presence of an income tax, from a fall in heirs’ labor e orts. In the field of estate and transfers in general, the analysis of the motives for giving is another important aspect. In fact, different motives are associated to di erent forms of utility functions and, as a consequence, to di erent policy e ects. Altruism, joy of giving, exchange related motives, accidental bequests have been widely studied in the literature (see Davies, 1996; Masson and Pestieau, 1997; Stark, 1999; Kaplow, 2001). In this paper we consider altruism motivated bequests. However, we introduce an element that is not considered in the existing models, i.e. the presence of migration. Moreover, we allow for a disconnection in the economy, in that we assume altruism to be limited to own descendants4. This element turns out to be a relevant determinant of taxation once it is embedded in the social welfare function, and precisely in the sense that the policymaker takes into account the demographic evolution of the population. In fact, the zero capital income and inheritance tax result applies only if the disconnection of the economy is disregarded. We identify instead a number of ways in which the demographic evolution of the population can be accounted for within the social welfare function via appropriate intergenerational weights, leading to di erent combinations of the inheritance and capital income tax rates, with at least one of them being nonzero. The work proceeds as follows: in section 2 we present the model and derive the equilibrium conditions for the decentralized economy. Next, we characterize the Ramsey problem by adopting the primal approach. Finally, we present the results by focusing on the new ones. Concluding remarks and a technical appendix will end the work.

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Paper provided by CHILD - Centre for Household, Income, Labour and Demographic economics - ITALY in its series CHILD Working Papers with number wp11_06.

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Length: 17 pages
Date of creation: May 2006
Handle: RePEc:wpc:wplist:wp11_06
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  1. Erosa, Andres & Gervais, Martin, 2002. "Optimal Taxation in Life-Cycle Economies," Journal of Economic Theory, Elsevier, vol. 105(2), pages 338-369, August.
  2. Ivan Werning & Emmanuel Farhi, 2005. "Inequality, Social Discounting and Estate Taxation," 2005 Meeting Papers 358, Society for Economic Dynamics.
  3. de la Croix,David & Michel,Philippe, 2002. "A Theory of Economic Growth," Cambridge Books, Cambridge University Press, number 9780521001151, March.
  4. Blanchard, Olivier J, 1985. "Debt, Deficits, and Finite Horizons," Journal of Political Economy, University of Chicago Press, vol. 93(2), pages 223-247, April.
  5. Judd, Kenneth L., 1999. "Optimal taxation and spending in general competitive growth models," Journal of Public Economics, Elsevier, vol. 71(1), pages 1-26, January.
  6. Atkinson, A B & Sandmo, A, 1980. "Welfare Implications of the Taxation of Savings," Economic Journal, Royal Economic Society, vol. 90(359), pages 529-549, September.
  7. Andres Erosa & Martin Gervais, 2001. "Optimal taxation in infinitely-lived agent and overlapping generations models : a review," Economic Quarterly, Federal Reserve Bank of Richmond, issue Spr, pages 23-44.
  8. Judd, Kenneth L., 1985. "Redistributive taxation in a simple perfect foresight model," Journal of Public Economics, Elsevier, vol. 28(1), pages 59-83, October.
  9. Chamley, Christophe, 1986. "Optimal Taxation of Capital Income in General Equilibrium with Infinite Lives," Econometrica, Econometric Society, vol. 54(3), pages 607-622, May.
  10. De Bonis, Valeria & Spataro, Luca, 2005. "Taxing Capital Income As Pigouvian Correction: The Role Of Discounting The Future," Macroeconomic Dynamics, Cambridge University Press, vol. 9(04), pages 469-477, September.
  11. Buiter, Willem H, 1988. "Death, Birth, Productivity Growth and Debt Neutrality," Economic Journal, Royal Economic Society, vol. 98(391), pages 279-293, June.
  12. De Bonis Valeria & Spataro Luca, 2004. "Recent Developments in Dynamic Capital Income Taxation Theory: A Review," Economia politica, Società editrice il Mulino, issue 2, pages 269-298.
  13. Weil, Philippe, 1989. "Overlapping families of infinitely-lived agents," Journal of Public Economics, Elsevier, vol. 38(2), pages 183-198, March.
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