Thursday, March 22, 2007
Leonard E. Burman (Fellow, Urban Institute; Director, Tax Policy Center) presents The Rising Tide Tax System (with Robert J. Shiller (Professor of Economics, Yale University), Gregory Leiserson (Research Assistant, Urban Institute) & Jeffrey Rohaly (Senior Research Methodologist, Urban Institute; Director of Modeling, Tax Policy Center)) at NYU today as part of its Colloquium on Tax Policy and Public Finance Series, moderated by Alan Auerbach & Daniel Shaviro. Here is the abstract:
Experience over the past three decades suggests that growing inequality is a serious risk. A change in the tax system to index against changes in inequality is motivated both by financial theory and by classical welfare economics. Inequality indexation would partially insure against future increases in after-tax inequality. Tax rates would endogenously adjust to changes in inequality to dampen changes in the after-tax “Lorenz curve.” We develop a method of implementing the system using U.S. tax return data and illustrate its effect using the Urban-Brookings Tax Policy Center Microsimulation Model. We study the outcomes if inequality indexation had begun in 1979 or 1994. Distributive effects and incentive effects are described. If future inequality is unpredictable and redistribution were costless then it is easy to demonstrate that full indexation would increase social welfare (assuming risk aversion). Redistribution is, of course, costly—for example, because high marginal tax rates entail disproportionately large efficiency costs—so partial indexation is likely to be optimal. This conclusion also holds if policies that could increase both economic growth and inequality are subject to electoral approval. Basically, the expected winners could use indexation to induce the expected losers to approve pro-growth, but inequality-increasing, policies.