Estimating tax income elasticities using a group-averaged synthetic tax instrument

Allan Seuri ()
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Allan Seuri: Tampere University

Economics Bulletin, 2019, vol. 39, issue 3, 2137-2141

Abstract: A common approach to estimating the elasticity of income to taxation is to construct an instrumental variable using synthetic tax rates. Individual-level income dynamics threaten the validity of this instrument, but this problem can potentially be mitigated by group-averaging the instrument. In this article I show that rather than imposing an arbitrary minimum threshold for group sizes to avoid small-sample bias, researchers should use leave-one-out group averages. Using CPS data I show that this correction increases the estimate for broad income elasticity.

Keywords: instrumental variables; elasticity of taxable income; grouping estimation; leave-one-out (search for similar items in EconPapers)
JEL-codes: H2 H3 (search for similar items in EconPapers)
Date: 2019-09-30
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