Effects of Progressive Taxes under Decentralized Bargaining and Heterogeneous Labor
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Number in series: 33
We study effects of changes in income tax progressivity in an economy where workers’ productivities differ and workers and firms bargain individually over wages. When employment is given, we show that a pure increase in tax progressivity reduces wages by reducing workers’ relative bargaining power. When average taxes then also increase, after-tax wages are unambiguously reduced, while the effects on gross wages and firm profitability are ambiguous. We next consider an example where the income tax is linear and the productivity distribution uniform, and the linear tax is the government’s only policy instrument. A first-best solution then cannot be implemented. A second-best solution can however be implemented using a whole family of tax functions, with different tax progressivity, and a more progressive tax implies a higher tax revenue to the government.The government may then achieve a higher tax revenue, and a more even distribution of after-tax income, without any additional disturbance to allocation.
H21, H22, J23, J31
Project:Oppdragsgiver: Norges forskningsråd
Frisch prosjekt: 1142 - Income tax, equality and efficiency