LT W1: Incidence

Empirical Applications

Partial Equilibrium Incidence

Key Points

  • Statutory burden of a tax does not describe who really bears the tax
  • Agents in the market on whom the tax is legally imposed (the remittance obligation) is irrelevant to the distribution of economic burden
  • It is bad to be inelastic. Parties with inelastic supply or demand bear the burden of the tax.
  • Doyle & Samphantharak (2007): Gas tax burden - cross-border substitution
  • Chetty et al (2009): Tax salience in supermarkets

Challenges:

  • Identification of equilibrium effects
  • Time series identification is usually not convincing
  • Problem with building a counterfactual/control group (good control groups are likely to be affected due to general equilibrium effects)

Assumptions:

  • Change in taxes and prices are equivalent (consumers are perfectly aware of the prices and the different tax levels of the different goods)
  • Perfect competition
  • No market frictions
  • Perfect tax enforcement

Deviations

Tax Salience

#1: Inattention leads to a more inelastic behavioural response. This increases incidence on the inattentive group.

#2: Salience/information frictions can break the classic result that statutory incidence is rrelevant for economic incidence.


Intuitively,

  • If consumers were remitting the tax themselves (i.e. they have statutory incidence), they would be more attentive
  • Thus, they would be more elastic, and there is less economic incidence
  • In other words, statutory incidence can affect economic incidence contrary to theory

Under previous assumptions, consumers are perfectly salient (i.e. attentive) regarding taxes. However, empirical studies have shown that tax salience does not exist in reality.

Impefect Compeition

In perfect competition, equilibrium is efficient, and introducing taxes/mandating prices can only reduce equilibrium quantities.


In imperfect competition, equilibrium is inefficient. Thus, pre-existing incidencies affect the incidence of policies.

  • Mandating prices (e.g. minimum wage in labour market) may increase both prices and quantities

Manning (2003): Search frictions can give firms monopsony power

General Equilibrium Incidence

Partial equilibrium: Considers effects of tax on one market
General equilibrium: Considers effects of tax on one market + its related markets

Conclusions

  • Policy changes are typically more incident on inelastic agents
  • Remittance obligations are irrelevant for the distribution of the economic burden of the tax in the standard model
  • Behavioural frictions can affect elasticities/incidence, and break the classical neutrality result
  • Imperfect competition can also greatly change the incidence of policy changes
  • Determining the incidence of policies in a world with many types of agents and many moving parts is challenging
  • Theory can build intuition, but empirical analysis of incidence is always necessary to sort out ambiguities in the theory