Optimal Tax Progressivity: An Analytical Framework

By Jonathan Heathcote, Kjetil Storesletten, Giovanni L. Violante. 2014

576 citations recorded by the source corpus.

What shapes the optimal degree of progressivity of the tax and transfer system? On the one hand, a progressive tax system can counteract inequality in initial conditions and substitute for imperfect private insurance against idiosyncratic earnings risk. At the same time, progressivity reduces incentives to work and to invest in skills, and aggravates the externality associated with valued public expenditures. We develop a tractable equilibrium model that features all of these trade-offs. The analytical expressions we derive for social welfare deliver a transparent understanding of how preferences, technology, and market structure parameters influence the optimal degree of progressivity. A calibration for the U.S. economy indicates that endogenous skill investment, flexible labor supply, and the externality linked to valued government purchases play quantitatively similar roles in limiting desired progressivity.

Subfields: Accounting, Economics and Econometrics

View Paper: https://www.semanticscholar.org/paper/e165b4ae6b336abc0d9ab932b9940e837240d5a2

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Citations in the corpus

Imperfect Competition, Compensating Differentials and Rent Sharing in the U.S. Labor Market (2019, result): “Lastly, we demonstrate that the results 12These results mirror closely existing U.S. estimates of τ and λ (Guner et al., 2014, Heathcote et al., 2017). are materially unchanged when, instead of commuting zones, we define the geographic units to be more aggregated (states) or less aggregated…”
Mortgage Design in an Equilibrium Model of the Housing Market (2018, unknown): “The tax system is calibrated as in Heathcote, Storesletten, and Violante (2017), with τ0 = 0.80 and τ1 = 0.18.”
The Intertemporal Keynesian Cross (2018, unknown): “181 as in Heathcote et al. (2017), assume that government spending is Y = 20% of output, and set γ to normalize steady-state output.”
The evolution of wealth inequality over half a century: The role of taxes, transfers and technology (2016, background): “For values of τ between zero and one, the tax system is progressive.10 See Guner et al. (2015), Heathcote et al. (2014) and Bakis et al. (2015) for evidence on the fit of this function.”
The Long-Term Distributional and Welfare Effects of Covid-19 School Closures (2020, methodology): “The labor income tax code is approximated by the following two-parameter function, as in, e.g., Benabou (2002) and Heathcote et al. (2017): T (y) = y − λy1−τ , where τ is the progressivity parameter and λ determines the average tax rate.”