On the Optimal Progressivity of the Income Tax Code

Juan Carlos Conesa and Dirk Krueger

No 5040, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: This paper computes the optimal progressivity of the income tax code in a dynamic general equilibrium model with household heterogeneity in which uninsurable labour productivity risk gives rise to a nontrivial income and wealth distribution. A progressive tax system serves as a partial substitute for missing insurance markets and enhances an equal distribution of economic welfare. These beneficial effects of a progressive tax system have to be traded off against the efficiency loss arising from distorting endogenous labour supply and capital accumulation decisions. Using a utilitarian steady state social welfare criterion we find that the optimal US income tax is well approximated by a flat tax rate of 17.2% and a fixed deduction of about $9,400. The steady state welfare gains from a fundamental tax reform towards this tax system are equivalent to 1.7% higher consumption in each state of the world. An explicit computation of the transition path induced by a reform of the current towards the optimal tax system indicates that a majority of the population currently alive (roughly 62%) would experience welfare gains, suggesting that such fundamental income tax reform is not only desirable, but may also be politically feasible.

Keywords: Progressive taxation; Optimal taxation; Flat taxes; Social insurance; Transition (search for similar items in EconPapers)
JEL-codes: E62 H21 H24 (search for similar items in EconPapers)
Date: 2005-05
New Economics Papers: this item is included in nep-dge, nep-mac and nep-pbe
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (20)

Downloads: (external link)
https://cepr.org/publications/DP5040 (application/pdf)
CEPR Discussion Papers are free to download for our researchers, subscribers and members. If you fall into one of these categories but have trouble downloading our papers, please contact us at subscribers@cepr.org

Related works:
Working Paper: On the Optimal Progressivity of the Income Tax Code (2015)
Journal Article: On the optimal progressivity of the income tax code (2006)
Working Paper: On the Optimal Progressivity of the Income Tax Code (2005)
Working Paper: On the Optimal Progressivity of the Income Tax Code (2002)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:cpr:ceprdp:5040

Ordering information: This working paper can be ordered from
https://cepr.org/publications/DP5040
orders@cepr.org

Access Statistics for this paper

More papers in CEPR Discussion Papers from C.E.P.R. Discussion Papers Centre for Economic Policy Research, 33 Great Sutton Street, London EC1V 0DX.
Bibliographic data for series maintained by (repec@cepr.org).