LOUIS KAPLOW The Theory of Taxation and Public Economics
The Theory of taxation and public economics 01_Kaplow_Prelims_pooi-pxoxii indd
The Theory of Taxation and Public Economics a 01_Kaplow_Prelims_p00i-pxxii.indd i 1_Kaplow_Prelims_p00i-pxxii.indd i 10/16/2007 11:20:59 AM 0/16/2007 11:20:59 AM
LOUIS KAPLOW The Theory of Taxation and public economics PRINCETON UNIVERSITY PRESS PRINCETON AND OXFORD 01_Kaplow_Prelims_po0i-pxoxii indd i
louis kaplow The Theory of Taxation and Public Economics a princeton university press princeton and oxford 01_Kaplow_Prelims_p00i-pxxii.indd iii 1_Kaplow_Prelims_p00i-pxxii.indd iii 10/16/2007 11:20:59 AM 0/16/2007 11:20:59 AM
Copyright o 2008 by Princeton University Press Published by Princeton University Press, 41 William Street, Princeton, New Jersey 08540 In the United King Princeton University Press, 3 Market Place, Woodstock, Oxfordshire OX20 ISY ISBN-13:978-0-691-130774 ISBN-10:0-691-13077-9 This book has been composed in Minion Printed on acid-free paper. Pup.pr Printed in the United States of america ⑥
Copyright © 2008 by Princeton University Press Published by Princeton University Press, 41 William Street, Princeton, New Jersey 08540 In the United Kingdom: Princeton University Press, 3 Market Place, Woodstock, Oxfordshire OX20 1SY All Rights Reserved ISBN-13: 978-0-691-13077-4 ISBN-10: 0-691-13077-9 British Library Cataloging-in-Publication Data is available This book has been composed in Minion Printed on acid-free paper. ∞ pup.princeton.edu Printed in the United States of America 10 9 8 7 6 5 4 3 2 1 01_Kaplow_Prelims_p00i-pxxii.indd iv 1_Kaplow_Prelims_p00i-pxxii.indd iv 10/16/2007 11:20:59 AM 0/16/2007 11:20:59 AM
St unnai ry of Contents Pr 1. Introduction PART I: FRAMEWORK 2. An Integrated View 13 3. The Social Objective PART II: OPTIMAL TAXATION 4. Optimal Income Taxation 5. Elaboration and extensions 6. Income and Commodity taxation PART III GOVERNMENT EXPENDITURES 7. Transfer Payments 8. Goods and Services 179 PART IV ADDITIONAL ASPECTS OF TAXATION 9. Taxation of Capital 221 10. Taxation of Transfers 11. Taxation and Social Security 12. Taxation of families 315 1_Kaplow_Prelims_p0oi-pxoxiiindd vil
Summary of Contents a Preface xvii 1. Introduction 1 PART I: FRAMEWORK 2. An Integrated View 13 3. The Social Objective 35 PART II: OPTIMAL TAXATION 4. Optimal Income Taxation 53 5. Elaboration and Extensions 80 6. Income and Commodity Taxation 122 PART III: GOVERNMENT EXPENDITURES 7. Transfer Payments 151 8. Goods and Services 179 PART IV: ADDITIONAL ASPECTS OF TAXATION 9. Taxation of Capital 221 10. Taxation of Transfers 249 11. Taxation and Social Security 275 12. Taxation of Families 315 01_Kaplow_Prelims_p00i-pxxii.indd vii 1_Kaplow_Prelims_p00i-pxxii.indd vii 10/16/2007 11:20:59 AM 0/16/2007 11:20:59 AM
vIll SUMMARY OF CONTENTS PART V: DISTRIBUTIVE JUSTICE AND SOCIAL WELFARE 14. Social Welfare function 15. Other Normative Criteria 391 16. Conclusion 407 erences 417 Inde 55 1_Kaplow_Prelims_pooi-pxxii indd vi
viii summary of contents PART V: DISTRIBUTIVE JUSTICE AND SOCIAL WELFARE 13. Welfare 347 14. Social Welfare Function 370 15. Other Normative Criteria 391 16. Conclusion 407 References 417 Index 455 01_Kaplow_Prelims_p00i-pxxii.indd viii 1_Kaplow_Prelims_p00i-pxxii.indd viii 10/16/2007 11:20:59 AM 0/16/2007 11:20:59 AM
Contents Preface XVll 1. Introduction PART I: FRAMEWORK 2. An Integrated View A. Completeness of Policy Specification B. Comprehensiveness of Instruments Considered bility of Pr roposals unde. The Problem 2. Distribution-Neutral Income Tax Adjustments as a solution 3. Applicability 3. The Social Objective A. Motivation 1. Example 2. Implications 1. Social Welfare Functions 41 ts on a Range of Social Welfare Functions 3. Relevance of the Choice of a particular social Welfare function PART II: OPTIMAL TAXATION 4. Optimal Income Taxation A Statement of the problem B. Results Linear income tax 01_Kaplow_Prelims_pooi-pxoxii indd ix
Contents a Preface xvii 1. Introduction 1 PART I: FRAMEWORK 2. An Integrated View 13 A. Completeness of Policy Specifi cation 15 B. Comprehensiveness of Instruments Considered 19 C. Comparability of Proposals under Assessment 22 1. The Problem 22 2. Distribution-Neutral Income Tax Adjustments as a Solution 25 3. Applicability 29 3. The Social Objective 35 A. Motivation 35 1. Examples 36 2. Implications 37 B. Exposition 41 1. Social Welfare Functions 41 2. Comments on a Range of Social Welfare Functions 44 3. Relevance of the Choice of a Particular Social Welfare Function 48 PART II: OPTIMAL TAXATION 4. Optimal Income Taxation 53 A. Statement of the Problem 53 B. Results 57 1. Linear Income Tax 58 01_Kaplow_Prelims_p00i-pxxii.indd ix 1_Kaplow_Prelims_p00i-pxxii.indd ix 10/16/2007 11:20:59 AM 0/16/2007 11:20:59 AM
X CONTENTS 2. Two-Bracket Income Tax 3. Nonlinear income tax b. Qualifications c. Simulations Discus 5. Elaboration and extensions A. Behavioral Response to Labor Income Taxation 047080 1. Labor Supply Elasticity 2. Taxable Income Elasticity 3. Long-Run Elasticity B. Problems of Implementation 1. Administration and Enforcement 2. Lack of Comprehensive Tax Base 94 C Income and ability 1. Taxation of Earning Ability 2. Income as an Indicator of ability versus Preferences D Interdependent Preferences 110 E. Additional Considerations 116 1. Liquidity Constraints 116 2. Uncertain Labor Income 117 3. General Equilibrium Effects 119 6. Income and Commodity Taxation 122 A Statement of the problem Optimal Commodity Taxation 1. Distribution-Neutral Income Tax Adjustment and 2. Elimination of Differential Commodity Taxation 132 3. Other Reforms of Commodity Taxation C. Qualifications 1. Externalities 137 2. Preferences Nonseparable in Labor 137 3. Preferences Dependent on Earning Ability 139 5. Administration and Enforcement
x contents 2. Two-Bracket Income Tax 63 3. Nonlinear Income Tax 65 a. Analysis 65 b. Qualifi cations 70 c. Simulations 74 4. Discussion 77 5. Elaboration and Extensions 80 A. Behavioral Response to Labor Income Taxation 80 1. Labor Supply Elasticity 80 2. Taxable Income Elasticity 82 3. Long-Run Elasticity 87 B. Problems of Implementation 90 1. Administration and Enforcement 90 2. Lack of Comprehensive Tax Base 94 C. Income and Ability 96 1. Taxation of Earning Ability 96 2. Income as an Indicator of Ability versus Preferences 103 D. Interdependent Preferences 110 E. Additional Considerations 116 1. Liquidity Constraints 116 2. Uncertain Labor Income 117 3. General Equilibrium Effects 119 4. Nontax Distortions 120 6. Income and Commodity Taxation 122 A. Statement of the Problem 125 B. Optimal Commodity Taxation 127 1. Distribution-Neutral Income Tax Adjustment and Labor Effort 128 2. Elimination of Differential Commodity Taxation 132 3. Other Reforms of Commodity Taxation 133 C. Qualifi cations 135 1. Externalities 137 2. Preferences Nonseparable in Labor 137 3. Preferences Dependent on Earning Ability 139 4. Preference Heterogeneity 140 5. Administration and Enforcement 142 01_Kaplow_Prelims_p00i-pxxii.indd x 1_Kaplow_Prelims_p00i-pxxii.indd x 10/16/2007 11:20:59 AM 0/16/2007 11:20:59 AM
CONTENTS 6. Taxpayer Illusion 143 7. Political e 144 D Ramsey Taxation 145 PART III GOVERNMENT EXPENDITURES 7. Transfer Payments Integrated View 1. Characterization 152 2. Analysis B. Existing System 2. Application: Earned Income Tax Credit 3. Administration, Eligibility, and Measurement of Need C. Categorical Assistance 1. Optimal Categorical Assistance 2. Application to Existing Program nous Categorization D. Work Inducements 2. Rewarding Hours 3. Other Reasons to Encourage or Discourage Work E. Cash versus In-Kind Transfers 8. Goods and Services A Distribution-Neutral Income Tax Adjustments B. Special Case: Government Provision Perfect Substitute for Consumption C. General Case: Distributive Incidence and Optimal Provision 188 1. Analys 2. Examples D. General Case: Distributive Incidence and Optimal Redistribution 1. Introduction 2. Analysis 3. Optimal Income Taxation and Revenue Requirements 200 01_Kaplow_Prelims_pooi-pxoxii indd xi
contents xi 6. Taxpayer Illusion 143 7. Political Economy 144 D. Ramsey Taxation 145 PART III: GOVERNMENT EXPENDITURES 7. Transfer Payments 151 A. Integrated View 152 1. Characterization 152 2. Analysis 154 B. Existing System 156 1. Aggregate Marginal Tax Rates 156 2. Application: Earned Income Tax Credit 158 3. Administration, Eligibility, and Measurement of Need 160 C. Categorical Assistance 164 1. Optimal Categorical Assistance 164 2. Application to Existing Programs 167 3. Endogenous Categorization 169 D. Work Inducements 170 1. Rewarding Earnings 170 2. Rewarding Hours 171 3. Other Reasons to Encourage or Discourage Work 173 E. Cash versus In-Kind Transfers 175 8. Goods and Services 179 A. Distribution-Neutral Income Tax Adjustments 182 B. Special Case: Government Provision Perfect Substitute for Consumption 185 C. General Case: Distributive Incidence and Optimal Provision 188 1. Analysis 188 2. Examples 190 3. Comments 192 D. General Case: Distributive Incidence and Optimal Redistribution 197 1. Introduction 197 2. Analysis 198 3. Optimal Income Taxation and Revenue Requirements 200 01_Kaplow_Prelims_p00i-pxxii.indd xi 1_Kaplow_Prelims_p00i-pxxii.indd xi 10/16/2007 11:20:59 AM 0/16/2007 11:20:59 AM
CONTENTS E. Measurement of distributive Incidence 202 E. Benefit Taxation 209 G. Extension: Government Regulation PART IV: ADDITIONAL ASPECTS OF TAXATION 9. Taxation of Capital 1. Taxation of Capital as Differential Commodity Taxation 222 pplIcations 1. Income versus Consumption Taxation 230 2. Wealth Taxation orporate Income Taxatio 236 C. Extensions 239 1. Uncertain Capital Income 2. Capital Levies and Transitions 3.H 10. Taxation of transfers 1. Taxation of Transfers as Differential Commodity Taxation 251 2. Externalities due to transfers 253 a. Externality on donees 253 b. Externality involving tax revenue 3. Transfers' Effects on the Marginal Social value of Redistribution 256 B. Transfer motives 258 1. Altruism 26 2. Utility from 26l 3. Exchange 4. Accidental Bequests C. Additional Considerations 266 1. Other Aspects of Distribution 266 01_Kaplow_Prelims_pooi-pxoxii indd xil
xii contents E. Measurement of Distributive Incidence 202 F. Benefi t Taxation 209 G. Extension: Government Regulation 211 PART IV: ADDITIONAL ASPECTS OF TAXATION 9. Taxation of Capital 221 A. Analysis 222 1. Taxation of Capital as Differential Commodity Taxation 222 2. Qualifi cations 225 B. Applications 230 1. Income versus Consumption Taxation 230 2. Wealth Taxation 235 3. Corporate Income Taxation 236 C. Extensions 239 1. Uncertain Capital Income 239 2. Capital Levies and Transitions 242 3. Human Capital 245 10. Taxation of Transfers 249 A. Analysis 251 1. Taxation of Transfers as Differential Commodity Taxation 251 2. Externalities Due to Transfers 253 a. Externality on donees 253 b. Externality involving tax revenue 254 3. Transfers’ Effects on the Marginal Social Value of Redistribution 256 B. Transfer Motives 258 1. Altruism 260 2. Utility from Giving Per Se 261 3. Exchange 263 4. Accidental Bequests 264 C. Additional Considerations 266 1. Other Aspects of Distribution 266 01_Kaplow_Prelims_p00i-pxxii.indd xii 1_Kaplow_Prelims_p00i-pxxii.indd xii 10/16/2007 11:20:59 AM 0/16/2007 11:20:59 AM