Working Paper: NBER ID: w25617
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: optimal taxation; age-dependent taxation; public finance; income redistribution
JEL Codes: E20; H21; H31; H41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| age (J14) | tax progressivity (H29) |
| age (J14) | average marginal tax rate (H29) |
| age (J14) | consumption by age (E21) |
| age-dependent taxation (H29) | welfare outcomes (I38) |
| lifecycle borrowing and lending (G51) | optimal tax policy (H21) |
| life cycle channel (D15) | tax progressivity (H29) |
| uninsurable risk channel (G22) | tax progressivity (H29) |