Download Chapter 18

PERSONAL TAXATION
AND BEHAVIOR
Chapter 18
Income per week
Labor Supply
D
|Slope| = w
E1
G
iii
ii
Income
Leisure
0
Work
F
i
T Hours of leisure per week
time endowment
18-2
Income per week
Effects of Taxation
D
|Slope| = w
H
E1
G
G’
0
|Slope| = (1-t)w
E2
F I
iii
ii
i
Hours of
work after
tax
T Hours of leisure per week
Hours of work before tax
18-3
Income per week
Effects of Taxation
D
H
E1
G
K
iii
E3
ii
i
0
J
F
Hours of
work after
tax
T Hours of leisure per week
Hours of work before tax
18-4
Income per week
Effects of Taxation
D
|Slope| = w
|Slope| = (1-t2)w
N
E1
E4
(1-t1)$5,000 + (1-t2$5,000
(1-t1)$5,000
|Slope| = (1-t1)w
|Slope| = (1-t2)w
0
P F
T Hours of leisure per week
Hours of work before tax
18-5
Empirical Findings
• Eissa [2001]
– For males aged 20-60, the effect of changes in
the net wage on hours worked is small and often
statistically insignificant
• Elasticity of approximately 0.05
– For married females, the hours of work and labor
force participation decisions are quite sensitive to
changes in the net wage, although it has gotten
smaller over time.
• Elasticity of approximately 0.40
18-6
Some Caveats
• Demand-side considerations
• Individual versus group effects
• Other dimensions of labor supply: Human
Capital
• The compensation package
• The expenditure side
18-7
Taxes and Human Capital
Accumulation
• Human capital
• Investing in human capital
– B–C>0
– (1 – t)B – (1 – t)C = (1 – t)(B – C>) 0
– Income versus substitution effects
• Shortcomings of model
–
–
–
–
Returns uncertain
Explicit costs
Other taxes
Progressive taxes
18-8
Wage rate
per hour
Labor Supply and Tax Revenues
SL
w
(1-t1)w
(1-t2)w
a
j
k
c
b
d
e
f
(1-tA)w
(1-t3)w
h
i
L3
LA
L2
L1
L0 Hours per week
18-9
Tax revenue
Tax Rates versus Tax Revenue–
Laffer Curve
t1
t2
tA
t3
Tax rate
18-10
Debate Over the Laffer Curve
• The Laffer curve and the elasticity of labor
supply
• Where on the Laffer curve is the economy
operating?
• Other ways tax rates can affect tax revenues
• Determining the optimal tax rate
• Is maximizing tax revenue a valid goal?
18-11
Future consumption c1
Saving and the Life-Cycle Model
N
E1
c1*
iii
ii
i
I1
Endowment point
ІSlopeІ = 1 + r
Saving
c0
*
I0
M
Present consumption (c0)
18-12
Future consumption c1
Deductible Interest Payments and
Taxable Interest Receipts
N
E1
c1*
P
c1t
I1
After-tax budget line
ІSlopeІ = 1 + (1-t)r
A
Saving
after
tax
c0* c0t
Saving before tax
I0
M
Present consumption (c0)
Q
18-13
Future consumption c1
Deductible Interest Payments and
Taxable Interest Receipts
N
E1
c1*
c1t
P
I1
After-tax budget line
ІSlopeІ = 1 + (1-t)r
A
Saving
after
tax
c0t c0*
Saving before tax
M
I0
Q
Present consumption (c0)
18-14
Future consumption c1
Nondeductible Interest Payments and
Taxable Interest Receipts
N
c1*
c1t
I1
P
After-tax budget line
ІSlopeІ = 1 + (1-t)r
A
I0
M
Present consumption (c0)
Q
18-15
Some Additional Considerations
•
•
•
•
•
Real net rate of return
Many assets
Private saving versus social saving
Validity of life-cycle model
Empirical evidence: effect of taxation on saving
– Problems using the regression approach
• Specification issues
• Measurement issues
– Joint Committee on Taxation [2005]
18-16
Tax-Preferred Savings Accounts
• Types of tax-preferred savings accounts and
how they work
• Are contributions to these accounts new
saving?
• Administrative details and effect on saving:
insights from Behavioral Economics
18-17
Taxes and the Capital Shortage
• Taxes and investment
• Taxes and excess burden
• Closed versus open economy
18-18
Housing Decisions
• Effects of the income tax on housing decisions
– Rnet = R – I + ΔV
• Implicit rent not taxed
• Deductibility of mortgage interest and
property tax payments
• The decision to rent or buy
18-19
Proposals for Change
• Critique of subsidy for owner-occupied housing
– Are there significant positive externalities?
– Impact on distribution of income
– Incentive to take on risky mortgages, contributing to the
housing and financial crisis of 2008-2009
• Political feasibility of taxing imputed rent
• Reform proposals
– Elimination of deduction for property tax and mortgage
interest
– Placing an upper-limit on deductions
– Convert mortgage interest deduction into a credit
18-20
Portfolio Composition
• Tobin’s model of portfolio composition
• Impact of proportional tax with full loss offset
– Impact on return
– Impact on risk
• Empirical evidence
18-21
A Note on Politics and Elasticities
• Ambiguity about effect of taxation on
behavior
• Importance of elasticities
• “Convenient” beliefs about elasticities
18-22
Chapter 18 Summary
• The U.S. personal income tax affects several
economic decisions including labor supply,
housing consumption, saving, and human
capital investment
• Research into these affects are among the
most contentious of all areas of public policies
18-23