The optimal tax mix with underground labor

Alejandro Forcades ()
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Alejandro Forcades: Universitat Autònoma de Barcelona

Economics Bulletin, 2019, vol. 39, issue 1, 214-222

Abstract: The optimal mix between capital, labor and consumption taxes is derived in a model with underground labor. The Ramsey planner, which is limited by the trade-off between declared and underground labor, sets the tax rate on labor income equal to zero in order to get rid off the issue of tax evasion; so, in contrast to Coleman (2000), subsidizing labor is not optimal. This paper also points out that adding consumption taxation to the model of Correia (1992) makes the Chamley-Judd result of a zero capital tax in the long run hold even when there are restrictions on the taxation of labor; in fact, the optimal tax rate on capital income is always zero. Since consumption taxes are positive and constant for each period, I provide an alternative argument to shift the whole tax burden from income to consumption.

Keywords: optimal dynamic taxation; underground economy; consumption taxes (search for similar items in EconPapers)
JEL-codes: E6 H2 (search for similar items in EconPapers)
Date: 2019-02-02
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