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Education and optimal dynamic taxation: The role of income-contingent student loans

  • Sebastian Findeisen
  • Dominik Sachs

We study Pareto optimal tax and education policies when human capital upon labor market entry is endogenous and individuals face wage uncertainty. Though optimal labor distortions are history-dependent, i.e. depend on income and education, simple policy instruments can yield the desired distortions: a single nonlinear labor income tax schedule combined with income-contingent loans. To take themodel to the (US) data, we simplify the model to a binary education decision (graduating from college or not). We find that for lowand intermediate incomes the labor supply decision of college graduates should be distorted more heavily than for individuals without a college degree. As a consequence, the optimal student loan repayment schedule increases in income for this range. This result holds along the Pareto frontier. We compare the second best to a situation where loan repayment is restricted to be independent from income and find significant welfare gains.

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Paper provided by Department of Economics - University of Zurich in its series ECON - Working Papers with number 040.

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Date of creation: Oct 2011
Date of revision: Sep 2012
Handle: RePEc:zur:econwp:040
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  1. Brant Abbott & Giovanni Gallipoli & Costas Meghir & Giovanni L. Violante, 2013. "Education Policy and Intergenerational Transfers in Equilibrium," Working Paper Series 15_13, The Rimini Centre for Economic Analysis.
  2. Bovenberg, A.L. & Jacobs, B., 2001. "Redistribution and Education Subsidies are Siamese Twins," Discussion Paper 2001-82, Tilburg University, Center for Economic Research.
  3. Mikhail Golosov & Narayana Kocherlakota & Aleh Tsyvinski, 2001. "Optimal indirect and capital taxation," Staff Report 293, Federal Reserve Bank of Minneapolis.
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  10. Borys Grochulski & Tomasz Piskorski, 2007. "Risky human capital and deferred capital income taxation," Working Paper 06-13, Federal Reserve Bank of Richmond.
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  13. Mankiw, N. Gregory & Weinzierl, Matthew Charles & Yagan, Danny Ferris, 2009. "Optimal Taxation in Theory and Practice," Scholarly Articles 4263739, Harvard University Department of Economics.
  14. Giovanni L. Violante & Costas Meghir & Giovanni Gallipoli, 2008. "Equilibrium Effects of Education Policies: a Quantitative Evaluation," 2008 Meeting Papers 868, Society for Economic Dynamics.
  15. Emannauel Farhi & Ivan Werning, 2006. "Capital Taxation," 2006 Meeting Papers 455, Society for Economic Dynamics.
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  17. A. Lans Bovenberg & Bas Jacobs, 2005. "Redistribution and Education Subsidies are Siamese Twins," Tinbergen Institute Discussion Papers 05-036/3, Tinbergen Institute.
  18. A. Lans Bovenberg & Bas Jacobs, 2005. "Redistribution and Education Subsidies are Siamese Twins," Tinbergen Institute Discussion Papers 05-036/3, Tinbergen Institute.
  19. Helmuth Cremer & Firouz Gahvari & Jean-Marie Lozachmeur, 2010. "Tagging and Income Taxation: Theory and an Application," American Economic Journal: Economic Policy, American Economic Association, vol. 2(1), pages 31-50, February.
  20. Marek Kapicka, 2006. "Optimal Income Taxation with Human Capital Accumulation and Limited Record Keeping," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 9(4), pages 612-639, October.
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