Progressive Consumption Taxes

Carlos Eugênio da Costa () and Marcelo Rodrigues dos Santos

No 819, FGV EPGE Economics Working Papers (Ensaios Economicos da EPGE) from EPGE Brazilian School of Economics and Finance - FGV EPGE (Brazil)

Abstract: In a static setting, whether consumption or labor income is progressively taxed is irrelevant for household choices and welfare. In a dynamic setting, however, these two forms of progressivity have markedly di erent implications for how earnings vary along the life-cycle: in a stylized life-cycle model, progressive income tax act reducing Frisch elasticities of labor supply whereas progressive consumption taxes act reducing the elasticity of intertemporal substitution. After showing that the latter leads to less ine ciencies in the stylized model than the former, we explore the consequences of replacing the current U.S. tax system by one in which labor income are linear and consumption taxes are progressive. We nd welfare gains that exceed 10% in consumption equivalent variation terms for all possible speci cations in steady state comparisons. Welfare gains are attained in all our speci cations with either very small increases in the capital stock or even large declines.

Date: 2020-09-29
New Economics Papers: this item is included in nep-dge, nep-pbe and nep-pub
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