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Optimal Income Taxation with Unemployment and Wage Responses: A Sufficient Statistics Approach†

Optimal Income Taxation with Unemployment and Wage Responses: A Sufficient Statistics Approach† AbstractWe derive a sufficient statistics tax formula in a model that incorporates unemployment and endogenous wages to study the shape of the optimal income tax. Key sufficient statistics are the macro employment response to taxation, the micro and macro participation response to taxation, and the wage-moderating effect of tax progressivity. We empirically implement the tax formula by estimating the micro and macro elasticities using policy variation from the United States. Our results suggest that the optimal tax more closely resembles a negative income tax than an earned income tax credit relative to the case where unemployment and wage responses are ignored. (JEL E24, H21, H23, H24, H31, J22, J31) http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png American Economic Journal: Economic Policy American Economic Association

Optimal Income Taxation with Unemployment and Wage Responses: A Sufficient Statistics Approach†

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Publisher
American Economic Association
Copyright
Copyright © 2020 © American Economic Association
ISSN
1945-7731
DOI
10.1257/pol.20180033
Publisher site
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Abstract

AbstractWe derive a sufficient statistics tax formula in a model that incorporates unemployment and endogenous wages to study the shape of the optimal income tax. Key sufficient statistics are the macro employment response to taxation, the micro and macro participation response to taxation, and the wage-moderating effect of tax progressivity. We empirically implement the tax formula by estimating the micro and macro elasticities using policy variation from the United States. Our results suggest that the optimal tax more closely resembles a negative income tax than an earned income tax credit relative to the case where unemployment and wage responses are ignored. (JEL E24, H21, H23, H24, H31, J22, J31)

Journal

American Economic Journal: Economic Policy – American Economic Association

Published: Feb 1, 2020

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