Working Paper: CEPR ID: DP13550
Authors: Jonathan Heathcote; Kjetil Storesletten; Giovanni L. Violante
Abstract: This paper studies optimal taxation of earnings when the degree of tax progressivity is allowed to vary with age. The setting is an overlapping-generations model that incorporates irreversible skill investment, flexible labor supply, ex-ante heterogeneity in the disutility of work and the cost of skill acquisition, partially insurable wage risk, and a life cycle productivity profile. An analytically tractable version of the model without intertemporal trade is used to characterize and quantify the salient trade-offs in tax design. The key results are that progressivity should be U-shaped in age and that the average marginal tax rate should be increasing and concave in age. These findings are confirmed in a version of the model with borrowing and saving that we solve numerically.
Keywords: tax progressivity; life cycle; income distribution; skill investment; labor supply; incomplete markets
JEL Codes: D30; E20; H20; H40; J22; J24
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| tax progressivity (H29) | skill investment (J24) |
| tax progressivity (H29) | labor supply (J20) |
| tax progressivity (H29) | consumption (E21) |
| age (J14) | tax progressivity (H29) |
| age (J14) | average marginal tax rates (H29) |
| tax parameters (H20) | welfare outcomes (I38) |