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Atlanta Marriott Marquis, International 6
Hosted By:
American Economic Association
In this paper, we seek to understand how to design goods markets optimally in the presence of persistent inequality. Using a mechanism design approach, we find that redistribution through markets can indeed be optimal. When there is substantial inequality across sides of the market, the designer uses a tax-like mechanism, introducing a wedge between the buyer and seller prices, and redistributing the resulting surplus to the poorer side of the market via lump-sum payments. When there is significant within-side inequality, meanwhile, the designer imposes price controls even though doing so induces rationing.
Technological Progress and Inequality: Perspectives from Optimal Tax Theory
Paper Session
Friday, Jan. 4, 2019 2:30 PM - 4:30 PM
- Chair: Ivan Werning, Massachusetts Institute of Technology
Market Power and Taxation
Abstract
Does significant market power or the presence of large rents affect optimal income taxation, calling for greater redistribution due to tainted gains, or perhaps less because of an additional wedge that distorts labor effort? Do concerns about inequality have implications for antitrust, regulation, trade, and other policies that influence market power, which contributes to inequality? This article addresses such questions using a model with heterogeneous abilities, markups, ownership that is a function of income, allowance for any share of profits to be recoveries of investments (including rent-seeking efforts), and a nonlinear income tax. In this model, proportional markups with no profit dissipation have no effect on the economy, and a policy that reduces a nonproportional markup raises (lowers) welfare when it is higher (lower) than a weighted average of other markups. With proportional (partial or full) profit dissipation, proportional markups are equivalent to a downward shift of the distribution of abilities, and the welfare effect of correcting nonproportional markups associated with nonproportional profit dissipation now depends also on the degree of dissipation and how that is affected by the policy. In all cases, optimal policies maximize consumer plus producer surplus, without regard to a policy’s distributive effects on consumers or profits or how markups distort labor effort.Generalized Compensation Principle
Abstract
We generalize the classic concept of compensating variation and the welfare compensation principle to a general equilibrium environment with distortionary taxes. We derive in closed-form the solution to the problem of designing a tax reform that compensates the welfare gains and losses induced by an arbitrary economic disruption. In partial equilibrium, average taxes simply increase or decrease to counteract the revenue gains or losses caused by the disruption. In general equilibrium, the compensation features three elements that depart from this benchmark and respectively account for (i) the incidence of the initial exogenous shock, and the fact that the tax reform itself induces indirect welfare effects caused by (ii) the non-constant marginal product of labor and (iii) the skill complementarities in production. This leads to a progressive compensating tax reform, with average tax rates increasing at a rate given by the ratio of the elasticity of labor demand and the elasticity of labor supply net of the rate of progressivity of the pre-existing tax code. We also derive a closed form formula for the fiscal surplus of the wage disruption and the compensation, thus generalizing the traditional Kaldor-Hicks criterion. Finally, we apply our formula to the compensation of automation: in the U.S., one additional robot per thousand workers requires a reduction (resp., increase) in the average tax rate at the 10th (resp., 90th) percentile of the income distribution equal to 2 percentage points (resp., 0.5 pp).Redistribution through Markets
Abstract
Even when global income redistribution is not feasible, market designers can seek to mitigate inequality within individual markets. If sellers are systematically poorer than buyers, for example, they will be willing to sell at relatively low prices. Yet a designer who cares about inequality might prefer to set higher prices precisely when sellers are poor – effectively, using the market as a redistributive tool.In this paper, we seek to understand how to design goods markets optimally in the presence of persistent inequality. Using a mechanism design approach, we find that redistribution through markets can indeed be optimal. When there is substantial inequality across sides of the market, the designer uses a tax-like mechanism, introducing a wedge between the buyer and seller prices, and redistributing the resulting surplus to the poorer side of the market via lump-sum payments. When there is significant within-side inequality, meanwhile, the designer imposes price controls even though doing so induces rationing.
Discussant(s)
Christopher Tonetti
,
Stanford University
William Kerr
,
Harvard Business School
Louis Kaplow
,
Harvard University
Steven Durlauf
,
University of Chicago
JEL Classifications
- H2 - Taxation, Subsidies, and Revenue
- E6 - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook