Working Paper: CEPR ID: DP6710
Authors: Charles Grant; Christos Koulovatianos; Alexander Michaelides; Mario Padula
Abstract: Marginal income taxes may have an insurance effect by decreasing the effective fluctuations of after-tax individual income. By compressing the idiosyncratic component of personal income fluctuations, higher marginal taxes should be negatively correlated with the dispersion of consumption across households, a necessary implication of an insurance effect of taxation. Our study empirically examines this negative correlation, exploiting the ample variation of state taxes across US states. We show that taxes are negatively correlated with the consumption dispersion of the within-state distribution of non-durable consumption and that this correlation is robust.
Keywords: consumption; insurance; tax distortions; undiversifiable earnings risk
JEL Codes: E21; H20; H31
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| marginal tax rates (H29) | consumption dispersion (E21) |
| higher marginal tax rates (H31) | lower consumption dispersion (E21) |
| higher marginal tax rates (H31) | lower standard deviation of nondurable consumption (D12) |