Paper #1825

Title:

Pareto-Improving Optimal Capital and Labor Taxes

Authors:

Katharina Greulich, Sarolta Laczó and Albert Marcet

Date:

January 2022 (Revised: August 2022)

Abstract:

We study optimal Pareto-improving factor taxation when agents are heterogeneous in their labor productivity and wealth and markets are complete. Pareto-improving policies require a gradual reform: labor taxes should be cut, and capital taxes should remain high for a long time before reaching the limit. This policy redistributes wealth in favor of workers, promotes growth, and causes early deficits and government debt in the long run. We address several technical issues, such as sufficiency of Lagrangian solutions in a Ramsey problem, their relation to welfare functions, and solution algorithms. We also provide a proof that long-run capital taxes are zero.

Keywords:

fiscal policy, factor taxation, Pareto-improving tax reform, redistribution

JEL codes:

E62, H21

Area of Research:

Macroeconomics and International Economics

Published in:

Journal of Political Economy, 131 (7), 2023, 1904-1946

Comment:

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