Working Paper: NBER ID: w20043
Authors: Florian Scheuer; Alexander Wolitzky
Abstract: This paper studies optimal dynamic tax policy under the threat of political reform. A policy will be reformed ex post if a large enough political coalition supports reform; thus, credible policies are those that will continue to attract enough political support in the future. If the only credible reform threat is to fully equalize consumption, we find that optimal marginal capital taxes are U-shaped, so that savings are subsidized for the middle class but are taxed for the poor and rich. If ex post the government may strategically propose a reform other than full equalization in order to secure additional political support, then optimal capital taxes are instead progressive throughout the income distribution.
Keywords: capital taxation; political constraints; dynamic tax policy
JEL Codes: D31; D82; E62; H21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Political support dynamics (D72) | Optimal marginal capital taxes exhibit a U-shaped structure (H21) |
| Optimal marginal capital taxes exhibit a U-shaped structure (H21) | Savings are subsidized for the middle class but taxed for the poor and rich (H23) |
| Government proposes reforms other than full equalization (H19) | Optimal capital taxes become progressive across the income distribution (H21) |
| Government's ability to tailor reforms to popular demand (D72) | Structure of capital taxes (H24) |
| Political support dynamics (D72) | Tax structure that incentivizes middle-class consumption under the status quo (H29) |
| Optimal capital taxes become progressive across the income distribution (H21) | Government strategically adjusts taxes to secure broader political support (H29) |