Taxation

W1: Incidence

Traditional Model of Tax Incidence

  • Statutory burden of tax does not describe economic incidence
  • Remittance obligation is irrelevant to the distribution of economic burden
  • Parties with inelastic demand/supply bear burden of tax

Empirical Application

  • Behavioural frictions can affect elasticities/incidence, and break the classical neutrality result
  • Imperfect competition can greatly change incidence of policy changes

W2: Welfare Programmes

Solutions to information asymmetry:

  • Tagging
  • In-kind benefits (Nickhols-Zeckhauser)
  • Ordeals

Responses to Taxation

W3: Taxes and Labour Supply

Non-convexity:

  • Fixed costs of work (both monetary and time)
  • Leads to discrete participation responses

Standard Model:

  • Marginal changes in taxes lead to marginal changes in hours work
  • Participation responses are smooth

Metrics:

  • Quantitative (externsive and intensive margin)
  • Qualitative

W4: Migration

W9: Tax Evasion

  • Migration is a significant response to tax incentives at the top of the income distribution
  • However, at the bottom of the income distribution, non-tax factors seem to be the primary cause

W5: Wealth and Income Inequality

Factor Shares

Income Inequality

  • Factor shares are not constant: capital share (alpha) is rising, and labour share is falling
  • Alpha =relative importance of capital vs labour income
  • Stock of capital (beta) is rising
  • Since capital income is very unequally distributed, increase in capital share will lead to greater inequality

Wealth Inequality

Possible Explanations

  • Race between education and technology
  • Globalisation
  • Secularly declining membership and bargaining power of labour unions
  • Pay norms and board control
  • Tax and transfer system

However, none of the explanations can offer a convincing reason for the fact that the top 1%'s income seem to be growing so much more than even the top 10%. Many are also unable to offer a reason as to why the US sees growing inequality as compared to Europe/Japan.

Main Ideas

  • Wealth inequality determines how concentrated capital income is
  • When capital income becomes increasingly important share of total income, then wealth inequality matters more for overall income share

Random Shock Model:

  • Dynamic model with cumulative shocks over long horizons
  • Wealth concentration increases with (r-g)
  • (r-g) acts as a magnifier to any initial wealth inequality
  • Over a long period of time, wealth accumulates and eventually concentrates in the hands of a few

W6: Income and Behavioural Response at the Top of the Income Distribution

Margins of Responses:

  • Labour income: hours worked, participation, migration, effort on the job, education, training, etc.
  • Capital income: Savings, portfolio choice
  • Tax avoidance: Legal shifting of taxes
  • Tax evasion (W9): Illegal under-reporting of taxes

Optimal Taxation

W7: Commodity Taxation

Elasticity of Taxable Income (ETI)

  • Not a structural parameter
  • Depends on extent of evasion and avoidance (a more rigorous tax system will lead to a lower ETI)
  • Studies done: top income share analyses

Justifications:

  1. Ramsey taxation (satisfying a revenue requirement)
  2. Equity
  3. Externalities
  4. Internalities & paternalism

Ramsey Rule: More elastic goods should be taxed less as compared to other goods. This is because behavioural response is greater.

W8: Income Taxation

Commodity vs Income Taxation

2 methods of redistribution:

  • Progressive income taxation
  • Differentiate taxes on consumption goods weighing differently in the budgets of rich and poor

Nicholz-Seckhauser/Atkinson Stiglitz

  • Result: If income effects explain all demand differences across rich and poor, then the optimal tax system uses only income taxes, and no differentiated commodity taxes.
  • Intuition: If demand differences are driven solely by income, then income taxation can achieve the same redistribution without distorting consumption incentives.
  • In other words, for redistributive commodity taxes to be optimal, we need to have demand difference conditional on income

Models:

  • Allingham-Sandmo model:
  • Kleven et al model: Found that third party information reporting is able to significantly reduce tax evasion (due to the increased probability of detection).

W10: Taxation and Development

Modern taxes: Driven by third-party reported information
Traditional taxes: Driven by self-reporting

  • With economic development, firms become larger and more formalised. This leads to greater use of modern taxes, allowing countries to increase the tax level + change in tax structure