Heterogeneity and Government Revenues: Does Tax Progressivity - PowerPoint PPT Presentation

Heterogeneity and Government Revenues: Does Tax Progressivity Matter? Nezih Guner, Martin Lopez Daneri and Gustavo Ventura ICREA-MOVE, U. Autònoma de Barcelona and Barcelona GSE (Spain) Central Bank of Chile (Chile) Arizona State University (USA) SED - 2013 - Seoul

Motivation � In the recent crisis, many governments increase or propose to increase top marginal tax rates to raise revenue. � Recent policy debate on taxing the top earners (Diamond and Saez, 2011) � How much more revenue can a government raise by making income taxes more progressive? � How does the answer depend on average level of taxes? � How does the answer depend on underlying labor supply elasticities?

What we do � Build a standard Aiyagari-Bewley-Huggett economy. � Parameterize this model to be consistent with facts on inequality and taxes paid for the US economy. � Parametric representation of e¤ective taxes paid – Heathcote, Storesletten and Violante (2012). � Use this framework to compute how government revenue changes with progressivity of income taxes.

Related Literature � Large literature on optimal progressivity of income taxes � Conesa and Krueger (2006), Conesa, Kitao, and Krueger (2009), Diamond and Saez (2011), Heathcote, Storesletten and Violante (2012), Bakis, Kaymak and Poschke (2012), Badel and Huggett (2013) � Literature on the La¤er curve – linear taxes � Trabandt and Uhlig (2010), Feve, Matheron, Sahuc (2012)

Taxes in the U.S. � Use Internal Revenue Service (IRS) micro data to document the relation between income and taxes paid – Guner, Kaygusuz and Ventura (2013) � A representative sample of U.S. households � No top-coding � Information on, among other things, income and taxes paid

Taxes in the U.S. Tax Rates Statistic All % with zero taxes 24.7% Median Tax rate 7.3% Mean Tax rate 7.4% Tax Rate De…ning Bottom 80% 12.3% Bottom 90% 15.9% Bottom 95% 18.5% Bottom 99% 25.4%

Taxes in the U.S. Distribution of Income and Tax Liabilities Quantiles Income Taxes Paid Bottom 1% 0.0% 0.0% 1-5% 0.1% 0.0% 5-10% 0.4% 0.0% Quantiles 1st (bottom 20%) 2.0% 0.3% 2nd (20-40%) 6.1% 1.9% 3rd (40-60%) 11.3% 5.7% 4th (60-80%) 19.1% 13.1% 5th (80-100%) 61.3% 79.1% Top 90-95% 10.6% 11.2% 95-99% 15.0% 19.4% 1% 20.9% 35.8%

Taxes in the U.S. � What is the relation between income and taxes paid? � Heathcote, Storesletten and Violante (2012) propose the following relation T ( I ) = ( 1 � λ I � τ ) I = I � λ I 1 � τ � The average tax rate is given by t ( I ) = 1 � λ I � τ � Estimate this relation from micro data with I represented as multiples of mean household income.

Average Tax Rates for Married Households, Data 0.25 0.2 0 15 0.15 verage Tax Rates Av 0.1 0.05 0 0.2 1 1.8 2.6 3.4 4.2 5 5.8 6.6 7.4 8.2 9 9.8 Multiples of Mean Household Income

Average Tax Rates for Married Households, Data and Parametric Estimates 0.25 0.2 0.15 verage Tax Rates Data 0.1 HSV HSV Av 0.05 0 0.2 1 1.8 2.6 3.4 4.2 5 5.8 6.6 7.4 8.2 9 9.8 ‐ 0.05 Multiples of Mean Household Income

Título del eje 0.05 0 15 0.15 0.25 0.35 0.1 0.2 0.3 0 0.5 0.75 1 1.25 Marginal Tax Rates for Married Households (data and the parametric estimates) 1.5 1.75 2 2.25 2.5 2.75 3 3.25 3.5 3.75 4 4.25 4.5 4.75 5 5.25 5.5 5.75 6 6.25 6.5 6.75 7 7.25 7.5 7.75 8 8.25 8.5 8.75 9 9.25 9.5 9.75 10 hsv data

Model � Life-cycle economy, j = 1 , ...., J R , .... J . � Population structure is stationary, with population growing at rate n . � Agents face idiosyncratic earnings risk and life uncertainty. � Agents can save in the form of riskless capital, but they are not allowed to borrow. � There are no annuities markets.

Model � Agents value consumption and dislike work u ( c , l ) = log ( c ) � ϕ l 1 + 1 γ 1 + 1 γ � Labor productivity of an age- j agent with a current idiosyncratic shock z is given by e ( z , j ) � Labor productivity evolves according to ln e ( z 0 , j ) = γ j + z 0 , and z 0 = ρ z + ε , ε ~ N ( 0 , σ 2 ε ) . � At age-1, agents draw their initial z from N ( 0 , σ 2 z ) .

Model – Government � There is a government that taxes household income with a progressive tax schedule T ( . ) . � An additional ‡at tax on total household income τ l . � An additional ‡at tax on capital income τ k . � A social security tax τ p on labor earnings that …nance the social security system. � Budget constraint for an agents with e ( z , j ) and assets a c + a 0 = we ( z , j )( 1 � τ p ) + a ( 1 + r ) � τ k ar � T ( we ( z , j ) + ar ) � τ l ( we ( z , j ) + ar )

Model – Production � Standard Y t = K α t ( A t L t ) 1 � α , with A t = A 0 ( 1 + g ) t . � Aggregate Resource Constraint t ( A t L t ) 1 � α + ( 1 � δ ) K t . C t + K t + 1 + G = K α � Accidental bequests are wasted (or taken by the government).

Parameter Values � Model period is a year, J R = 45 (age 65) , J = 81 (age 100) � Productivity growth — g = 0 . 022 � Population growth — n = 0 . 011 � Survival probabilities – U.S. Life Tables � Capital Share — α = 0 . 35 � Depreciation — δ = 0 . 04

Parameter Values � f γ j g J R j = 1 — Hansen (1993) � Set ρ = 0 . 973 and σ 2 ε = 0 . 02 — Heathcote, Storesletten and Violante (2010)

Parameter Values � Four parameters left: f β , γ , ϕ , σ 2 z ) � Set γ = 1 (for now) � Choose β = 0 . 973 to match K / Y = 2 . 94 � Choose ϕ = 8 so that labor supply is 1/3 � Choose σ 2 z = 0 . 55 to match earnings Gini � Target for Earnings Gini 0.44 – Heathcote, Perri and Violante (2010)

Parameter Values � E¤ective tax function T ( I / I ) = ( 1 � λ ( I / I ) � τ )( I / I ) = I / I � λ ( I / I ) 1 � τ � λ = 0 . 925 , τ = 0 . 070 — Guner, Kaygusuz and Ventura (2013) � Set τ l = 0 . 05 — Guner, Kaygusuz and Ventura (2013) � Set τ k = 0 . 075 — revenue collected is 1.74% GDP (Corporate Income Tax, Cooley and Prescott 1995) � Set τ p = 0 . 086 – social security contributions/labor income

Benchmark Economy Distribution of Income, Data and Model Quantiles DATA MODEL Bottom 1% 0.0% 0.16% 1-5% 0.1% 0.75% 5-10% 0.4% 0.34% Quantiles 1st (bottom 20%) 2.0% 1.8% 2nd (20-40%) 6.1% 5.6% 3rd (40-60%) 11.3% 11.1% 4th (60-80%) 19.1% 21.1% 5th (80-100%) 61.3% 60.2%

Benchmark Economy Distribution of Income, Data and Model Quantiles DATA MODEL 1st (bottom 20%) 2.0% 1.8% 2nd (20-40%) 6.1% 5.6% 3rd (40-60%) 11.3% 11.1% 4th (60-80%) 19.1% 21.1% 5th (80-100%) 61.3% 60.2% Top 90-95% 10.6% 14.6% 95-99% 15.0% 18.2% 1% 20.9% 8.4%

Benchmark Economy � Federal Income Taxes are about 8% of GDP as they are in the data. Distribution of Tax Liabilities, Data and Model Quantiles DATA MODEL 1st (bottom 20%) 0.3% 0% 2nd (20-40%) 1.9% 0% 3rd (40-60%) 5.7% 2.0% 4th (60-80%) 13.1% 14.0% 5th (80-100%) 79.1% 84% Top 90-95% 11.2% 18.6% 95-99% 19.4% 28.6% 1% 35.8% 17.7% top 10% 66% 65%

Government Revenue � How does government revenue changes by τ ? � Benchmark values are λ = 0 . 925 and τ = 0 . 07 Distribution of Tax Liabilities Quantiles τ = 0 . 07 τ = 0 . 08 τ = 0 . 1 τ = 0 . 14 1st (bottom 20%) 0% 0% 0% 0% 2nd (20-40%) 0% 0% 0% 0% 3rd (40-60%) 2.0% 0.2% 0% 0% 4th (60-80%) 14.0% 13.4% 9.2% 1.3% 5th (80-100%) 84% 86.4% 90.8% 98.7% Top 90-95% 18.6% 19.1% 20% 31.5% 95-99% 28.6% 21.6% 21.5% 34.7% 1% 17.7% 18.4% 19.9% 22..3% top 10% 65% 67.1% 71.4% 78.5%

Average Tax Rates for Married Households, Role of  0.300 0.250 0.200 0.150 verage Tax Rates HSV tau =0.09 0.100 tau=0.08 tau = 0.04 Av 0.050 0.000 0.2 1 1.8 2.6 3.4 4.2 5 5.8 6.6 7.4 8.2 9 9.8 ‐ 0.050 ‐ 0.100 Multiples of Mean Household Income

Income Taxes 105 103 101 99 97 lambda = 0.925, tau = 0.07, BM 95 93 91 91 89 87 0 0.035 0.04 0.05 0.06 0.07 0.08 0.085 0.09 0.1 0.11 0.12 0.13 0.14 TAU

Labor, Capital and Mean Income 125 120 lambda = 0.925, tau = 0.07, BM 115 110 Labor Supply 105 Mean Income Capital 100 95 90 85 80 0 0.035 0.04 0.05 0.06 0.07 0.08 0.085 0.09 0.1 0.11 0.12 0.13 0.14 TAU

Total Taxes (income, local, capital) 101 100.5 100 99.5 99 98.5 98 98 97.5 lambda = 0.925, tau = 0.07, BM 97 96.5 96 0 0.035 0.04 0.05 0.06 0.07 0.08 0.085 0.09 0.1 0.11 0.12 0.13 0.14 TAU

Government Revenue � Can government increase federal income taxes by making the tax system more progressive? Yes. � But the increase is small. � Large declines in capital and labor. � As a result, total tax revenue (federal, local and capital) does not increase with τ .

Income Taxes, role of  130.00 125.00 120.00 115.00 110.00 lambda = 0.925, BM lambda = 0.9 105.00 100.00 95.00 90.00 85.00 0 0.035 0.07 0.1 0.15

Total Taxes, role of  120 115 110 lambda = 0.925, BM lambda = 0.9 105 105 100 95 0 0.035 0.07 0.1 0.15 TAU

Government Revenue � At higher levels of λ , there is even less room to increase revenue by increasing τ . � As λ increases, τ that maximized total tax revenue is smaller.