nep-pbe New Economics Papers
on Public Economics
Issue of 2015‒02‒05
twenty-one papers chosen by
Thomas Andrén

  1. Optimal Income Taxation: Mirrlees Meets Ramsey By Heathcote, Jonathan; Tsujiyama, Hitoshi
  2. Capital Taxation and Imperfect Competition: ACE vs. CBIT. By Brekke, Kurt R.; Garcia Pires, Armando J.; Schindler, Dirk; Schjelderup, Guttorm
  3. Optimal Spatial Taxation: Are Big Cities too Small? By Eeckhout, Jan; Guner, Nezih
  4. The Impact of Tax Reform in Japan on the Work-Hour and Income Distributions of Married Women By YOKOYAMA, Izumi
  5. Government spending shocks, wealth effects and distortionary taxes By James Cloyne
  6. Tax evasion and the optimal non-linear labour income taxation By Salvador Balle; Lucia Mangiavacchi; Luca Piccoli; Amedeo Spadaro
  7. Norms, Enforcement, and Tax Evasion By Besley, Timothy J.; Jensen, Anders; Persson, Torsten
  8. Shifting Taxes from Labour to Property. A Simulation under Labour Market Equilibrium By Coda Moscarola, Flavia; Colombino, Ugo; Figari, Francesco; Locatelli, Marilena
  9. Taxation and Economic Growth : An Empirical Analysis on Dynamic Panel Data of WAEMU Countries By NANTOB, N'Yilimon
  10. Optimal Income Taxation with a Stationarity Constraint in a Dynamic Stochastic Economy By Berliant, Marcus; Fujishima, Shota
  11. The Taxable Income Elasticity: A Structural Differencing Approach By Kumar, Anil; Liang, Che-Yuan
  12. Mansion tax: The Effect of Transfer Taxes on the Residential Real Estate Market By Kopczuk, Wojciech; Munroe, David
  13. Simple Labor Income Tax Systems with Endogenous Employment Contracts By Yiqing Xing; Anqi Li
  14. Household finance and the welfare state: a case study of the United States, 1980-­2010 By Eddie Gerba; Waltraud Schelkle
  15. Female labour supply, human capital and welfare reform By Richard Blundell; Costas Meghir; Jonathan Shaw; Monica Costa Dias
  16. Does Income Inequality Increase Charitable Giving? By Payne, A. Abigail; Smith, Justin
  17. Political competition and the limits of political compromise By Alexandre B. Cunha; Emanuel Ornelas
  18. Austerity By Dellas, Harris; Niepelt, Dirk
  19. India: India’s Food Grain Policies and the Public Distribution System: The Case of Rice. Who Wins, Who Loses, and by How Much? By Garry Pursell
  20. Labour's record on the under fives: policy, spending and outcomes 1997 - 2010 By Kitty Stewart
  21. Optimal Unemployment Insurance and Cyclical Fluctuations By Noah Williams; Rui Li

  1. By: Heathcote, Jonathan (Federal Reserve Bank of Minneapolis); Tsujiyama, Hitoshi (Goethe University Frankfurt)
    Abstract: What structure of income taxation maximizes the social benefits of redistribution while minimizing the social harm associated with distorting the allocation of labor input? Many authors have advocated scrapping the current tax system, which redistributes primarily via marginal tax rates that rise with income, and replacing it with a flat tax system, in which marginal tax rates are constant and redistribution is achieved via non-means-tested transfers. In this paper we compare alternative tax systems in an environment with distinct roles for public and private insurance. We evaluate alternative policies using a social welfare function designed to capture the taste for redistribution reflected in the current tax system. In our preferred specification, moving to the optimal flat tax policy reduces welfare, whereas moving to the optimal fully nonlinear Mirrlees policy generates only tiny welfare gains. These findings suggest that proposals for dramatic tax reform should be viewed with caution.
    Keywords: Optimal income taxation; Mirrlees taxation; Ramsey taxation; Tax progressivity; Flat tax; Private insurance; Social welfare functions
    JEL: E62 H21 H23 H31
    Date: 2015–01–22
  2. By: Brekke, Kurt R. (Dept. of Economics, Norwegian School of Economics and Business Administration); Garcia Pires, Armando J. (Dept. of Economics, Norwegian School of Economics and Business Administration); Schindler, Dirk (Dept. of Economics, Norwegian School of Economics and Business Administration); Schjelderup, Guttorm (Dept. of Economics, Norwegian School of Economics and Business Administration)
    Abstract: This paper studies the market and welfare effects of two main tax reforms – the Corporate Business Income Tax (CBIT) and the Allowance for Corporate Equity tax (ACE). Using an imperfect-competition model for a small open economy, it is shown that the well-known neutrality property of ACE does not hold. Both corporate tax regimes distort market entry and equilibrium prices. A main result is that a small open economy should levy a positive source tax on capital in markets with free firm entry. Which tax system is better from a welfare point of view, depends on production technology, the competitive effects of ACE and CBIT, and whether entry is excessive or suboptimal at the given corporate tax rate. Imposing tax income neutrality yields a higher corporate tax rate with ACE, which increases the scope for CBIT to be welfare improving.
    Keywords: Optimal corporate taxation; Corporate tax reform; Imperfect competition; ACE; CBIT.
    JEL: D43 H25
    Date: 2014–11–03
  3. By: Eeckhout, Jan; Guner, Nezih
    Abstract: We analyze the role of optimal income taxation across different local labor markets. Should labor in large cities be taxed differently than in small cities? We find that a planner who needs to raise revenue and is constrained by free mobility of labor across cities does not choose equal taxes for cities of different sizes. The optimal tax schedule is location specific and tax differences between large and small cities depends on the level of government spending and on the concentration of housing wealth. Our estimates for the US implies higher marginal rates in big cities, but lower than what is observed. Simulating the US economy under the optimal tax schedule, there are large effects on population mobility: the fraction of population in the 5 largest cities grows by 8.0% with 3.5% of the country-wide population moving to bigger cities. The welfare gains however are smaller. Aggregate consumption goes up by 1.53%. This is due to the fact that much of the output gains are spent on the increased costs of housing construction in bigger cities. Aggregate housing consumption goes down by 1.75%.
    Keywords: city size; general equilibrium; misallocation; population mobility; taxation
    JEL: H21 J61 R12 R13
    Date: 2015–01
  4. By: YOKOYAMA, Izumi
    Abstract: In 2004, Japan abolished part of its spousal exemption regulations. This paper examines, on theoretical and empirical levels, the effects of this tax reform on the income of married women, allowing for heterogeneous effects across income distribution. The empirical results from quantile difference-in-difference estimations and novel decomposition methods indicate that low-income wives increased their labor supply and incomes, in accordance with changes in tax incentives. In contrast, medium- and high-income wives, who were presumably unaffected by the tax reform, decreased their incomes in response to the upward trend of their husbands’ incomes during the same period. I argue that this behavior of middle- to high-income wives is due to an increased awareness of the shape of the budget line that were less conspicuous under the previous tax regime.
    Keywords: Female labor supply, Income distribution, Spousal exemption, Tax reform, Di-Nardo, Fortin, and Lemieux decomposition, RIF regressions, Unconditional Quantile Regressions, Firpo, Fortin, and Lemieux decomposition
    JEL: J20 H24
    Date: 2015–01
  5. By: James Cloyne
    Abstract: The size and sign of the government spending multiplier crucially depends on how the spending is financed and how consumers respond to implied future tax increases. I investigate this issue in an estimated New Keynesian DSGE model with distortionary labor and capital taxes and, importantly, with preferences that allow the wealth effect on labor supply to vary. Specifically I assess whether the model can explain the empirical evidence for the United States and examine the transmission mechanism, for realistic policy rules. I show that the model can match the positive empirical response of key variables including output, consumption and the real wage. I find that the role of the wealth effect on labor supply is small and that while tax rates rise following a spending shock these increases are modest, with debt rising. Deficit financed spending increases are therefore expansionary, but this is due to sticky prices rather than the wealth effect channel.
    Keywords: fiscal policy; government spending shocks; spending multiplier; busyness cycles
    JEL: E20 E32 E62 H20
    Date: 2014–05
  6. By: Salvador Balle (Universitat de les Illes Balears); Lucia Mangiavacchi (Universitat de les Illes Balears); Luca Piccoli (Universitat de les Illes Balears); Amedeo Spadaro (Universitat de les Illes Balears)
    Abstract: The present work studies optimal taxation of labour income when taxpayers are allowed to evade taxes. The analysis is conducted within a general non-linear tax framework, providing a characterisation of the solution for risk-neutral and risk-averse agents. For risk-neutral agents the optimal government choice is to enforce no evasion and to apply the original Mirrlees' rule for the optimal tax schedule. The no evasion condition is precisely determined by a combination of a sufficiently large penalty and a constant auditing probability. Similar results hold for risk-averse agents. Our findings imply that a government aiming at maximizing social welfare should always enforce no evasion and provide simple rules to pursue this objective.
    Keywords: Tax Evasion, Optimal Taxation, Social Welfare
    JEL: D31 H21 H26
    Date: 2015
  7. By: Besley, Timothy J.; Jensen, Anders; Persson, Torsten
    Abstract: This paper studies individual and social motives in tax evasion. We build a simple dynamic model that incorporates these motives and their interaction. The social motives underpin the role of norms and is the source of the dynamics that we study. Our empirical analysis exploits the adoption in 1990 of a poll tax to fund local government in the UK, which led to widespread evasion. We also exploit a series of natural experiments due to narrow election outcomes, which induce shifts into single-majority local governments and lead to more vigorous enforcement of local taxes. The econometric results are consistent with the model’s main predictions on the dynamics of evasion. “A widespread view among tax scholars holds that law enforcement does not explain why people pay taxes. The penalty for ordinary tax convictions is small; the probability of detection is trivial; so the expected sanction is small. Yet large numbers of Americans pay their taxes. ... Some scholars therefore conclude that the explanation for the tendency to pay taxes must be that people are obeying a norm — presumably a norm of tax payment or a more general norm of law-abiding behavior.” Posner (2000, page 1782)
    Keywords: poll tax; social norms; tax evasion
    JEL: H26 H71
    Date: 2015–01
  8. By: Coda Moscarola, Flavia; Colombino, Ugo; Figari, Francesco; Locatelli, Marilena
    Abstract: A tax shifting from labour income to housing taxation is generally advocated on efficiency grounds. However, most of the empirical literature focuses on the distributional implications of property tax reforms without paying much attention to potential consequences on the labour market. The aim of this paper is to fill this gap by investigating the effects of a tax shifting from labour income to property, guaranteeing revenue neutrality, and to assess the consequences of labour market equilibrium, both on occupation rates and income distribution. We propose to consider a hypothetical tax reform in Italy which uses the revenue of the tax on house property (actually implemented in 2012) for increasing tax credits on low incomes and making them refundable. In order to evaluate the reform we have developed a structural model of household labour supply which takes into account the labour market equilibrium conditions. Overall, the simulated policy provides a more effective income support and better inc
    Date: 2014–12–23
  9. By: NANTOB, N'Yilimon
    Abstract: This paper studies the impact of taxation on economic growth of the eight WAEMU countries. Among the critiques addressed to the public sector, numerous are those that refer principally to the negative effects which entail high weight and increasing of taxation. The growth rate can be influenced by economic policy choice relative to taxation which has an effect on the decisions of economic agents and is due to the productive public expenditures. The reason is that high level of taxation can be distortionary and like this negatively influences economic growth while law weight of taxation can generate some returns which will be enclosed in production. In order to catch this phenomenon in the WAEMU countries, we have contrary to the more previous studies accounted a non-linear effect of taxation on economic growth. Mobilizing a dynamic panel data specification over the period 1989–2012, the econometric results suggest the absence of a non-linear relationship between taxation and economic growth of WAEMU. Specifically, weak and high rates respectively at short run and long run do not create distortions and hence affect positively economic growth of WAEMU and generate income. This effect on economic growth then increase over time as the fiscal revenue increase.
    Keywords: Economic growth, fiscal system, public policy, panel, WAEMU
    JEL: C33 H20 H21 H27 O40
    Date: 2014–04–22
  10. By: Berliant, Marcus; Fujishima, Shota
    Abstract: We consider the optimal nonlinear income taxation problem in a dynamic, stochastic environment when the government cannot change the tax rule as uncertainty resolves. Due to such a stationarity constraint, our taxation problem is reduced to a static one over an expanded type space. We strengthen the argument in the static model that the zero top marginal tax rate result is of little practical importance because it is actually relevant only when the top earner in the initial period receives the highest shock in every subsequent period. Under a general stochastic structure such that the support of types moves over time, all people’s allocations are almost surely distorted in any period.
    Keywords: Optimal income taxation; New dynamic public finance
    JEL: H21
    Date: 2015–01–28
  11. By: Kumar, Anil (Research Department, Federal Reserve Bank of Dallas); Liang, Che-Yuan (Uppsala Center for Fiscal Studies)
    Abstract: We extend a standard taxable income model with its typical functional-form assumptions to account for nonlinear budget sets. We propose a new method to estimate a taxable income elasticity that is more policy relevant than the typically estimated elasticity based on linearized budget sets. Using U.S. data from the NBER tax panel for 1979-1990 and differencing methods, we estimate an elasticity of 0.75 for taxable income and 0.20 for broad income. These estimates are higher than those obtained by specifications based on linearization. Our approach offers a new way to address the problem of endogenous observed marginal tax rates.
    Keywords: taxable income; nonlinear budget sets; panel data
    JEL: D11 H24 J22
    Date: 2015–01–07
  12. By: Kopczuk, Wojciech; Munroe, David
    Abstract: Houses and apartments sold in New York and New Jersey at prices above $1 million are subject to the so-called 1% “mansion tax" imposed on the full value of the transaction. This policy generates a discontinuity (a “notch") in the overall tax liability. We rely on this and other discontinuities to analyze implications of transfer taxes in the real estate market. Using administrative records of property sales, we find robust evidence of substantial bunching and show that the incidence of this tax for transactions local to the discontinuity falls on sellers, may exceed the value of the tax, and is not explained by tax evasion (although supply-side quality adjustments may play a role). Above the notch, the volume of missing transactions exceeds those bunching below the notch. Interpreting our results in the context of an equilibrium bargaining model, we conclude that the market unravels in the neighborhood of the notch: its presence provides strong incentive for buyers and sellers in the proximity of the threshold not to transact. This effect, the identification and recognition of which is novel to this paper, is above and beyond the standard extensive margin response. When present, unraveling affects interpretation and estimation of bunching estimates. Finally, we show that the presence of the tax affects how the market operates away from the threshold—taxation increases price reductions during the search process and in the bargaining stage and weakens the relationship between listing and sale prices. We interpret these results as demonstrating that taxation affects the ultimate allocation in this search market.
    Keywords: housing market; incidence; transaction tax
    JEL: H2 H7 R3
    Date: 2015–01
  13. By: Yiqing Xing (Stanford University); Anqi Li (Washington University in St. Louis)
    Abstract: We use firm's endogenous contractual response to help implement the constrained first best through a simple yet powerful progressive labor income tax system. In our model, workers privately experience both a persistent ability shock and many transient productivity shocks during their life cycles. The optimal tax system is anonymous and time-invariant, but it achieves two goals. First, it directly redistributes the life-cycle income across workers of different ability types. Second, it indirectly induces firms to insure workers against transient shocks with efficiency wage contracts.
    Date: 2014
  14. By: Eddie Gerba; Waltraud Schelkle
    Abstract: The sharp rise in household finance, both in debt and in assets, is one of the striking empirical facts about the US economy of the last two decades. But it is still not clear what caused it. Economists, both mainstream and heterodox, seek an explanation in financial market innovation and liberalization. But it is hard to find systematic evidence for this link. Our paper takes up another line of inquiry. Political economists have started to ask how the restructuring of the welfare state may have affected household finance. We use SVAR analysis to establish whether there is a link between the retrenchment of public social spending and the expansion of tax-­‐incentivised private social spending, on the one hand, and household finance variables on the other. More specifically, we ask whether the transformation of the US welfare state over the last 30 years has affected household finances through the channel of debt, leverage, or asset formation. Our findings suggest that the asset channel is empirically the most likely candidate and we point to some welfare state reforms that can support the operation of this channel since the mid-­‐1990s
    Keywords: balance sheets; social spending; welfare reforms; financialisation; leverage cycles
    JEL: E21 E62 G21 H31 H55
    Date: 2014–04–30
  15. By: Richard Blundell; Costas Meghir; Jonathan Shaw; Monica Costa Dias
    Abstract: We consider the impact of tax credits and income support programs on female education choice, employment,hours and human capital accumulation over the life-cycle. We analyze both the short run incentive effects and the longer run implications of such programs. By allowing for risk aversion and savings,we quantify the insurance value of alternative programs. We find important incentive effects on education choice and labor supply, with single mothers having the most elastic labor supply. Returns to labor market experience are found to be substantial but only for full-time employment, and especially for women with more than basic formal education. For those with lower education the welfare programs are shown to have substantial insurance value. Based on the model, marginal increases to tax credits are preferred to equally costly increases in income support and to tax cuts, except by those in the highest education group.
    JEL: J1
    Date: 2013–04
  16. By: Payne, A. Abigail; Smith, Justin
    Abstract: Do households react to changes in the distribution of income in their localities by changing their charitable giving? The theoretical prediction of the effects of income inequality on giving is unclear. We study how changes in income inequality measured at the neighbourhood and municipality levels affect charitable giving by households in Canada between 1991 and 2006. We find that increases in inequality increase giving. Results are sensitive to the geographic dispersion of low and high-income households in neighbourhoods within a municipality. The effect on donations is smaller in areas with high levels of inequality at both neighbourhood and municipality levels.
    Keywords: charitable giving, donations, income inequality
    JEL: H3 H44 J38
    Date: 2015–01–25
  17. By: Alexandre B. Cunha; Emanuel Ornelas
    Abstract: We consider an economy where competing political parties alternate in office. Due to rent-seeking motives, incumbents have an incentive to set public expenditures above the socially optimum level. Parties cannot commit to future policies, but they can forge a political compromise where each party curbs excessive spending when in office if they expect future governments to do the same. We find that, if the government cannot manipulate state variables, more intense political competition fosters a compromise that yields better outcomes, potentially even the first best. By contrast, if the government can issue debt, vigorous political competition can render a compromise unsustainable and drive the economy to a low-welfare, high-debt, long-run trap. Our analysis thus suggests a legislative trade-off between restricting political competition and constraining the ability of governments to issue debt.
    Keywords: Political turnover; efficient policies; public debt
    JEL: E61 E62 H30 H63
    Date: 2014–03
  18. By: Dellas, Harris; Niepelt, Dirk
    Abstract: We shed light on the function, properties and optimal size of austerity using the standard sovereign model augmented to include incomplete information about credit risk. Austerity is defined as the shortfall of consumption from the level desired by a country and supported by its repayment capacity. We find that austerity serves as a tool for securing a more favorable loan package; that it is associated with over-investment even when investment does not create collateral; and that low risk borrowers may favour more to less severe austerity. These findings imply that the amount of fresh funds obtained by a sovereign is not a reliable measure of austerity suffered; and that austerity may actually be associated with higher growth. Our analysis accommodates costly signalling for gaining credibility and also assigns a novel role to spending multipliers in the determination of optimal austerity.
    Keywords: austerity; credit rationing; default; growth; incomplete information; investment; pooling equilibrium; separating equilibrium
    JEL: F34 H63
    Date: 2014–12
  19. By: Garry Pursell
    Abstract: Indian governments follow highly interventionist policies on food grains, especially rice and wheat. These policies include import and export controls which insulate the domestic market from world markets, a minimum support price (MSP) program which supports and controls domestic wholesale prices, large farm input subsidies, and consumer subsidy programs which provide rice and wheat through about half a million “fair price shops” to low income (below the poverty line-BPL) consumers at very low controlled prices. The consumer subsidy scheme was implemented under the provisions of the Targeted Public Distribution System (TPDS) until September 2013, when it was replaced by the National Food Security Act (NFSA). The NFSA aims to more than double the distribution of highly subsidised food grains (mainly rice and wheat) to cover approximately two thirds of the Indian population. Using a simple, comparative static linear model of the rice market roughly calibrated to the situation in rice marketing year 2011/12, this paper simulates the effects of various combinations of the following: abolition of the MSP regime, abolition of the TPDS, and opening of the market to exports by the private sector. The simulations identify the winners and losers and quantify the consequences of these policies for the fiscal positions of the central government and state governments, and for the welfare of rice farmers, rice consumers in general, poor (BPL) rice consumers, not-poor rice consumers,.and “diverters” who illegally resell subsidised rice at market prices. The policy simulations indicate that (1) The biggest increase in aggregate welfare is in the simulation which abolishes both the MSP and the TPDS and allows rice exports without restriction subject to an export tax (2) The improvement in aggregate welfare is much larger when the policy simulations include the abolition of the TPDS (3) When the TPDS is abolished,.the net aggregate welfare improvement of the winners is more than sufficient to compensate the net welfare losses of.BPL rice consumers..Unfortunately the NFSA replicates and in some respects worsens the deficiencies of the TPDS, so the prospect that it will be more effective and less costly in supplying low price food grains to very poor and poor individuals does not look good
    Keywords: Food grain policies; National Food Security Act; Targeted Public Distribution System; Food subsidy; Agricultural trade policies; India
    JEL: D61 H42 Q17 Q18
    Date: 2014
  20. By: Kitty Stewart
    Abstract: When Labour came to power in 1997 it made commitments to reduce poverty and improve children’s health, education and wider life chances. Early childhood was considered central to the strategy, and considerable resources were invested in very young children. This paper examines the main policies introduced affecting children under five, including longer maternity leave, Sure Start Children’s Centres, free early education for all three and four year olds, more affordable and higher quality childcare, and more generous financial support for families with children, both in and out of work. The paper draws on government statistics and evaluations as well as wider evidence from a range of independent sources to examine where increased spending went, and with what impact. Children’s outcomes improved on a range of measures during this period. Child poverty fell from one in three to one in four in households with a youngest child under five. Low birthweight and infant mortality rates (IMR) fell, and Foundation Stage Profile results improved. In all three measures gaps between different social groups narrowed. Research evaluations, where available, point to small but significant effects of particular policies, including Sure Start, the Neighbourhood Nurseries Initiative and the Graduate Leader Fund. However, in the absence of more widespread evidence from evaluations it is difficult to attribute changes in outcomes directly to changes in policy. The paper discusses these challenges and considers a series of ‘tests’ of Labour’s impact, including whether improvements represent a change in a longer-term trend, and, where possible, how outcomes compare in international terms.
    Keywords: early education; childcare; Sure Start; early childhood; Labour Government
    JEL: H51 H52 I28 I38
    Date: 2013–10
  21. By: Noah Williams (University of Wisconsin); Rui Li (University of Massachusetts Boston)
    Abstract: In this paper, we investigate the design of optimal unemployment insurance in an environment with moral hazard and cyclical fluctuations. The optimal unemployment insurance contract balances the insurance motive to provide consumption for the unemployed with the provision of incentives to search for a job. This balance is affected by aggregate conditions, as recessions are characterized by reductions in job finding rates. We show how benefits should vary with aggregate conditions in an optimal contract. In a special case of the model, the optimal contract can be solved in closed form. We show how this contract can be implemented in a rather simple way: by allowing unemployed workers to borrow and save in a risk-free bond, providing flow payments which are constant over an unemployment spell but vary with the aggregate state, and giving additional lump sum payments (or charges) upon finding a job or when the aggregate state switches. We then consider a calibrated version of the model and study the quantitative impact of changing from the current unemployment system to the optimal one. In a recession, the optimal system reduces unemployment rates by roughly 2.5 percentage points and shortens the duration of unemployment by roughly 50%.
    Date: 2014

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