Optimal Taxation and Market Power

Jan Eeckhout, Chunyang Fu, Wenjian Li and Xi Weng

American Economic Review, 2026, vol. 116, issue 1, 119-63

Abstract: Should optimal income taxation change when firms have market power? We analyze how the planner can optimally tax labor income of workers and profits of entrepreneurs. We derive optimal tax rates that depend on markups and identify four distinct components: the Mirrleesian incentive effect, the Pigouvian tax correction of the negative externality of market power, redistribution through altered factor prices, and reallocation of output toward the most productive firms. We quantify the optimal tax for the US economy and provide concrete proposals how to use income taxation to redistribute income while incentivizing production in the presence of market power.

JEL-codes: D24 D31 D43 H21 H23 H24 H25 (search for similar items in EconPapers)
Date: 2026
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Related works:
Working Paper: Optimal Taxation and Market Power (2021)
Working Paper: Optimal Taxation and Market Power (2021)
Working Paper: Optimal taxation and market power (2021)
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DOI: 10.1257/aer.20211445

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