Author Abstract
We examine a prominent justification for capital income taxation: goods preferred by those with high ability ought to be taxed. In an environment where commodity taxes are allowed to be nonlinear functions of income and consumption, we derive an analytical expression that reveals the forces determining optimal commodity taxation. We then calibrate the model to evidence on the relationship between skills and preferences and extensively examine the quantitative case for taxes on future consumption (saving). In our baseline case of a unit intertemporal elasticity, optimal capital income tax rates are 2 percent on average and 4.5 percent on high earners. We find that the intertemporal elasticity of substitution has a substantial effect on optimal capital taxation. If the intertemporal elasticity is one-third, optimal capital income tax rates rise to 15 percent on average and 23 percent on high earners; if the intertemporal elasticity is two, optimal rates fall to 0.6 percent on average and 1.6 percent on high earners. Nevertheless, in all cases that we consider the welfare gains of using optimal capital taxes are small.
Paper Information
- Full Working Paper Text
- Working Paper Publication Date: December 2010
- HBS Working Paper Number: NBER 16619
- Faculty Unit(s): Business, Government and International Economy
