Transcript Econ 101

Econ 208
Marek Kapicka
Lecture 9
Taxation
Midterm in a week!
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I’ll post older midterms
Some Multiple Choice questions
2 longer questions
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Similar to PS1, PS2, PS3, Q1-2 in Mid 2011, Q1-2
in Mid 2010
Know: competitive equilibrium: how to solve, what
each step MEANS.
Know: Pareto Optimum
Today’s class will be included. Wednesday will not.
Where are we?
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2.
Introduction: A model with no Government
Government Policies
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2.
The Effects of Government Spending
Government Taxation and Government Debt
What To Read
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Read
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Today:
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DLS, Chapter 13.2,13.4
The Region, Minneapolis Fed: “European
Vacation”, on the web
Next time:
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The Washington Post:"Where does the Laffer
curve bend? "
Today
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Government Taxation
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1)
2)
3)
4)
The
The
The
The
data
effects on Labor Supply
effects on Government Revenue
effects on GDP
Data on US Taxation
Federal Government Revenue
Data on US Taxation
Average Marginal Income Taxes
Taxation
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Lump-Sum tax vs. Distortive tax
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Lump sum tax does not depend on the
actions of the consumer
With distortive taxation, the welfare
theorems fail
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Competitive equilibrium is not Pareto
optimal
Why Distortive Taxation?
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In reality, lump-sum tax is infeasible
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Lump sum means everyone pays the same
amount but some people have no wealth
If differences among people are taken into
account then a distorting tax is the only possibility
What are the effects of a flat tax on
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Labor Supply?
Government Revenue?
GDP?
Capital Accumulation?
Where we are
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Government Taxation
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1)
2)
3)
4)
The
The
The
The
data
effects on Labor Supply
effects on Government Revenue
effects on GDP
2) The Effects on Labor Supply
An Example
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Utility of a household
L1
U (C , L)  C 
1 
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Household problem:
1
L
max C 
1 
s.t. C  (1  t ) wL
2) The Effects on Labor Supply
1
L
max(1  t ) wL 
L
1 
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Solution:
1
L  [(1  t ) w]
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Labor Supply decreases in the tax rate
The model and the data
E. Prescott (2004). “Why Do
Americans Work So Much
More Than Europeans?
U.S. vs. France
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1990’s:
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French productivity higher, but labor
supply much lower
GDP per person lower in France than in the
USA
1970’s:
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French productivity lower, but labor supply
slightly higher
Ohanian, Raffo, Rogerson: A more
comprehensive study
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Compare all the OECD countries for
1956-2004 period
How much can we explain by taxes?
Look for alternative explanations as
well.
Conclusion: Taxes are the most
important factor behind changes in
labor supply
Ohanian, Raffo, Rogerson: The data
Ohanian, Raffo, Rogerson: The
Results
Ohanian, Raffo, Rogerson: Other
Factors
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Compute a labor supply wedge:
Δ𝑡 = 1 −
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𝑀𝑅𝑆𝑙,𝑐
𝑀𝑃𝑁
Our model predicts that the wedge is equal to
the tax rate. What if other factors, outside of
the model, affect it as well?
Look at measure of employment protection,
union density, unemployment benefit
replacement rate, duration benefits
Ohanian, Raffo, Rogerson: Other
Factors
3) The Effects on Tax Revenue
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Government’s Tax revenue
1
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T  twL  t (1  t ) w
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Revenue is not linear in the tax rate!
If tax rate increases,
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Tax per one unit of labor supply increases
but labor supply decreases
Laffer Curve
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Government’s revenue against the tax rate
T
0%
1
1 + 1/𝛾
100% t
Empirical Evidence
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1981 Reagan Tax Cuts
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Overall, tax revenues have decreased
However, for the tope earners the tac cuts
have raised collections
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Maximum tax rate: 70%
50%
Increase in revenue from top (>200000) earners:
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3% in 1982
9% in 1983
23% in 1984
4) The Effect on GDP
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Christina Romer/ David Romer
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Classify all tax changes into
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Endogenous tax changes:
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Exogenous tax changes
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Spending driven tax changes
Recession driven tax changes
Belief motivated tax cuts
Deficit driven tax increases
Only exogenous tax changes will identify
the effect on GDP
A timeline of tax changes
Exogenous tax changes
Endogenous tax changes
A response to a tax increase of
1% of GDP
Main result
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Tax increases have large negative
effects on output/ labor supply