Does Centralised Wage Setting Lead into Higher Taxation?

Pekka Sinko and Juha Kilponen

No 314, Discussion Papers from Government Institute for Economic Research Finland (VATT)

Abstract: This paper studies implications of centralised wage setting for the level of taxation and public expenditure in an analytical model with unionised labour markets. We extend the previous studies by allowing for both demand and supply effects of labour. Also, in addition to the standard social planner approach, we consider a political economy set up, where the tax rate is chosen to maximise the welfare of a median voter. Our results suggest that when working hours are endogenous, the relationship between the degree of centralisation and the labour tax rate is ambiguous. In particular, if the marginal utility from public provision is sufficiently low, centralised wage setting implies lower optimal tax rate on labour. This is due to a "budgetary discipline effect", which reduces the optimal tax rate preferred by the median voter under centralised wage setting.

Keywords: Taxation; wage setting; public expenditure. (search for similar items in EconPapers)
JEL-codes: E24 D24 E62 J31 H20 (search for similar items in EconPapers)
Date: 2003-10-22
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Working Paper: Does Centralised Wage Setting Lead into Higher Taxation (2005)
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