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129
Dynamic Optimal Taxation with Private Information
 REVIEW OF ECONOMIC STUDIES
, 2005
"... We study dynamic optimal taxation in a class of economies with private information. Constrained optimal allocations in these environments are complicated and historydependent. Yet, we show that they can be implemented as competitive equilibria in market economies supplemented with simple tax system ..."
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Cited by 124 (6 self)
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We study dynamic optimal taxation in a class of economies with private information. Constrained optimal allocations in these environments are complicated and historydependent. Yet, we show that they can be implemented as competitive equilibria in market economies supplemented with simple tax systems. The market structure in these economies is similar to that in Bewley (1986): agents supply labor and trade riskfree claims to future consumption, subject to a budget constraint and a debt limit. Optimal taxes are conditioned only on two observable characteristics an agent’s accumulated stock of claims, or wealth, and her current labour income and they are not additively separable in these variables. The marginal wealth tax is decreasing in labour income and its expected value is generally positive. The marginal labour income tax is decreasing in wealth.
2007), Risk Sharing in Private Information Models with Asset Accumulation: Explaining the Excess Smoothness of Consumption, NBER Working Paper No 112994
"... JEL No. D82,E21 We derive testable implications of model in which first best allocations are not achieved because of a moral hazard problem with hidden saving. We show that in this environment agents typically achieve more insurance than that obtained under autarchy via saving, and that consumption ..."
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Cited by 57 (6 self)
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JEL No. D82,E21 We derive testable implications of model in which first best allocations are not achieved because of a moral hazard problem with hidden saving. We show that in this environment agents typically achieve more insurance than that obtained under autarchy via saving, and that consumption allocation gives rise to 'excess smoothness of consumption', as found and defined by Campbell and Deaton (1987). We argue that the evidence on excess smoothness is consistent with a violation of the simple intertemporal budget constraint considered in a Bewley economy (with a single asset) and use techniques proposed by Hansen et al. (1991) to test the intertemporal budget constraint. We also construct closed form examples where the excess smoothness parameter has a structural interpretation in terms of the severity of the moral hazard problem. Evidence from the UK on the dynamic properties of consumption and income in micro data is consistent with the implications of the model.
The Case for a Progressive Tax: From Basic Research to Policy Recommendations
 JOURNAL OF ECONOMIC PERSPECTIVES
, 2011
"... This paper presents the case for tax progressivity based on recent results in optimal tax theory. We consider the optimal progressivity of earnings taxation and whether capital income should be taxed. We critically discuss the academic research on these topics and when and how the results can be us ..."
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Cited by 56 (7 self)
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This paper presents the case for tax progressivity based on recent results in optimal tax theory. We consider the optimal progressivity of earnings taxation and whether capital income should be taxed. We critically discuss the academic research on these topics and when and how the results can be used for policy recommendations. We argue that a result from basic research is relevant for policy only if (a) it is based on economic mechanisms that are empirically relevant and first order to the problem, (b) it is reasonably robust to changes in the modeling assumptions, (c) the policy prescription is implementable (i.e., is socially acceptable and is not too complex). We obtain three policy recommendations from basic research that satisfy these criteria reasonably well. First, very high earners should be subject to high and rising marginal tax rates on earnings. Second, low income families should be encouraged to work with earnings subsidies, which should then be phasedout with high implicit marginal tax rates. Third, capital income should be taxed. We explain why the famous zero marginal tax rate result for the top earner in the Mirrlees model and the zero capital income tax rate results of ChamleyJudd and AtkinsonStiglitz are not policy relevant in our view.
Optimal Taxation with Endogenous Insurance Markets.” NBER Working Paper #11185
, 2006
"... In this paper, we study optimal tax policy in a dynamic private information economy. We describe e ¢ cient allocations and competitive equilibria. The standard assumption in the literature is that trades are observable by all agents. We show that in such an environment the competitive equilibrium i ..."
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Cited by 35 (4 self)
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In this paper, we study optimal tax policy in a dynamic private information economy. We describe e ¢ cient allocations and competitive equilibria. The standard assumption in the literature is that trades are observable by all agents. We show that in such an environment the competitive equilibrium is e ¢ cient and that government consumption can be
nanced by lumpsum taxation. We go on to consider an environment with unobservable trades in competitive markets. We show that e ¢ cient allocations have the property that the marginal product of capital is di¤erent from the market interest rate associated with unobservable trades. In any competitive equilibrium without taxation, the marginal product of capital and the market interest rate are equated, so that competitive equilibria are not e ¢ cient. Taxation of capital income can be welfareimproving because such taxation introduces a wedge between market interest rates and the marginal product of capital and allows agents to obtain better insurance in private markets. We use plausibly calibrated numerical examples to compute optimal taxes and welfare gains and compare results to an economy with a restricted set of tax instruments, and to an economy with observable trades. Golosov acknowledges support of the University of Minnesota Doctoral Dissertation Fellowship. This work grew out of numerous discussions with V.V. Chari and would not be possible without his support and encouragement. We thank Andy Atkeson, Marco
Evolution and intelligent design
 American Economic Review
, 2008
"... This paper discusses two sources of ideas that influence monetary policy makers today. The first is a set of analytical results that impose the rational expectations equilibrium concept and do ‘intelligent design ’ by solving Ramsey and mechanism design problems. The second is the adaptive learning ..."
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Cited by 33 (2 self)
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This paper discusses two sources of ideas that influence monetary policy makers today. The first is a set of analytical results that impose the rational expectations equilibrium concept and do ‘intelligent design ’ by solving Ramsey and mechanism design problems. The second is the adaptive learning process that first taught us how to anchor the price level with a gold standard, then how to replace the gold standard with a fiat currency wanting nominal anchors. Models of outofequilibrium learning say that such an adaptive evolutionary process will converge to a selfconfirming equilibrium (SCE). In an SCE, a government’s probability model is correct about events that occur under the prevailing government policy, but possibly wrong about the consequences of other policies. That causes mistakes absent from a rational expectations equilibrium and expands the role of learning.
Optimal Taxation in Theory and Practice
"... The optimal design of a tax system is a topic that has long fascinated economic theorists and flummoxed economic policymakers. This paper explores the interplay between tax theory and tax policy. It identifies key lessons policymakers might take from the academic literature on how taxes ought to be ..."
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Cited by 31 (5 self)
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The optimal design of a tax system is a topic that has long fascinated economic theorists and flummoxed economic policymakers. This paper explores the interplay between tax theory and tax policy. It identifies key lessons policymakers might take from the academic literature on how taxes ought to be designed, and it discusses the extent to which these lessons are reflected in actual tax policy. We begin with a brief overview of how economists think about optimal tax policy, based largely on the foundational work of Ramsey (1927) and Mirrlees (1971). We then put forward eight general lessons suggested by optimal tax theory as it has developed in recent decades: 1) Optimal marginal tax rate schedules depend on the distribution of ability; 2) The optimal marginal tax schedule could decline at high incomes; 3) A flat tax, with a universal lumpsum transfer, could be close to optimal; 4) The optimal extent of redistribution rises with wage inequality; 5) Taxes should depend on personal characteristics as well as income; 6) Only final goods ought to be taxed, and typically they ought to be taxed uniformly; 7) Capital income ought to be untaxed, at least in expectation; and 8) In stochastic, dynamic economies, optimal tax policy requires increased sophistication. For each lesson, we discuss its theoretical underpinnings
Asset Pricing Implications of Pareto Optimality with Private Information
 Journal of Political Economy
, 2009
"... In this paper, we consider a dynamic economy in which the agents in the economy are privately informed about their skills, which evolve stochastically over time in an arbitrary fashion. We consider an asset pricing equilibrium in which equilibrium quantities are constrained Pareto optimal. Under the ..."
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Cited by 30 (2 self)
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In this paper, we consider a dynamic economy in which the agents in the economy are privately informed about their skills, which evolve stochastically over time in an arbitrary fashion. We consider an asset pricing equilibrium in which equilibrium quantities are constrained Pareto optimal. Under the assumption that agents have constant relative risk aversion, we derive a a novel asset pricing kernel for financial asset returns. The kernel equals the reciprocal of the gross growth of the γth moment of the consumption distribution, where γ is the coefficient of relative risk aversion. This implication can be evaluated using a time series of cross sections. We use data from the consumer expenditure survey (CEX) and show that the new stochastic discount factor performs better than existing stochastic discount factors at rationalizing the equity premium. However, its ability to simultaneously explain the equity premium and the expected return to the Treasury bill is about the same as existing discount factors.
Efficient Allocations in Dynamic Private Information Economies with Persistent Shocks: A First Order Approach
, 2006
"... I study efficient allocations in a dynamic private information economy with a continuum of individual shocks that are persistent. I formulate the problem recursively and develop a first order approach to simplify it. The main advantage of the first order approach is that it allows for a substantial ..."
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Cited by 29 (0 self)
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I study efficient allocations in a dynamic private information economy with a continuum of individual shocks that are persistent. I formulate the problem recursively and develop a first order approach to simplify it. The main advantage of the first order approach is that it allows for a substantial reduction of the state space of the dynamic program. This makes the problem tractable and permits quantitative implementation of the problem. I provide both qualitative and quantitative solutions for a taste shock economy where the shocks follow a random walk. I show that insurance against the shocks works very differently than in an otherwise identical economy with i.i.d. shocks. Both current and continuation utility are now positively correlated with the current shock and the social planner will optimally overinsure the agents, rather than underinsure. Also, for most of the population the intertemporal wedges are significantly larger than in an i.i.d. economy.
2008): “Pareto efficient income taxation with stochastic abilities
 Journal of Public Economics
"... This paper studies Pareto efficientincometaxationinaneconomywithinfinitelylived individuals whose income generating abilities evolve according to a twostate Markov process. The study yields two main results. First, when individuals are risk neutral, the fraction of individuals who face a positive ..."
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Cited by 25 (4 self)
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This paper studies Pareto efficientincometaxationinaneconomywithinfinitelylived individuals whose income generating abilities evolve according to a twostate Markov process. The study yields two main results. First, when individuals are risk neutral, the fraction of individuals who face a positive marginal income tax rate is always positive but converges to zero. Moreover, the tax rate these individuals face also goes to zero. Second, Pareto efficient income tax systems can be timeconsistentevenwhenthedegreeof correlation in ability types is large.
Optimal Income Taxation with Multidimensional Taxpayer Types
, 2006
"... Beginning with Mirrlees, the optimal taxation literature has generally focused on economies where individuals are differentiated by only their productivity. In this paper we examine models where individuals are differentiated by two or more characteristics, and the numerical challenges posed by thes ..."
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Cited by 20 (0 self)
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Beginning with Mirrlees, the optimal taxation literature has generally focused on economies where individuals are differentiated by only their productivity. In this paper we examine models where individuals are differentiated by two or more characteristics, and the numerical challenges posed by these problems. We examine cases where individuals differ in productivity, elasticity of labor supply, and their ”basic needs”. We find that the extra dimensionality produces substantively different results. In particular, we find cases of negative marginal tax rates for some high productivity taxpayers. In our examples, income becomes a fuzzy signal of who should receive a subsidy under the planner’s objective, and the planner chooses less redistribution than it would in more homogeneous societies. We also show examine optimal taxation in an OLGmodel, and find that there is much less redistribution if the planner, as most governments do, does not discriminate on the basis of age. Multidimensional optimal tax problems are difficult nonlinear optimization problems because the linear independence constraint qualification does not hold at all feasible points and often fails to hold at the solution. To robustly solve these nonlinear programs, we use SNOPT with an elasticmode, which has been shown to be effectively for degenerate nonlinear programs.