Working Papers
Tax Incidence and Optimal Taxation with General Equilibrium Effects and Transition [PDF]
Abstract
We study the incidence of redistributive income tax reforms in general equilibrium with transitional dynamics, using a variational approach to the nonlinear income tax system. In a standard incomplete market model with self insurance (Aiyagari (1994)), a tax reform changes the relative price of capital and labor income, which has important welfare incidence via various externalities. Different from the standard trickle-down effects, the general equilibrium effects in Aiyagari economy can favor either more or less progressive tax reform, depending on the relative importance of the labor and savings responses and their transition path. We qualitatively and quantitatively identify the key factors of the general equilibrium effects to show that both the direction and size depend on (i) the shape of the initial tax schedule, (ii) determinants of the relative labor and savings response, (iii) patience, and their interactions. We also investigate the global transition of the reform to the optimal tax schedule, and show that the global reform has average welfare gain thanks to the huge short-run welfare gain.
Abstract
Can we find rationales for taxing or subsidizing inherited wealth without relying on the preferences of the society? To answer this question, we study optimal taxation of inheritance and retirement savings in a model where the bequest and saving motives are driven by the differences in medical expenses, mortality risk, and patience, as well as heterogeneous productivity. We show that the correlations between each of these factors and the earning productivities are the key for the marginal inheritance taxation. Positive inheritance taxes are optimal when rich people face higher medical expenses and are more patient. In the presence of heterogeneous mortality risk, longer life expectancy of more productive workers increases the tax on retirement savings and decreases the tax on inherited wealth.
Abstract
This paper studies optimal sovereign debt policy of the government with limited commitment and compare the optimal policies in economies with and without government's private capital control. The comparison of optimal sovereign debt policies can rationalize why more financially open market economies show more severe allocation puzzle --- more negative relationship between growth and public capital flows, which is observed in the data.
Publications
Trust in Risk Sharing: A Double-Edged Sword, with Harold Cole, Dirk Krueger, and George Mailath - accepted, Review of Economic Studies [PDF] [Appendix]
Abstract
We analyze efficient risk-sharing arrangements when the value from deviating is determined endogenously by another risk sharing arrangement. Coalitions form to insure against idiosyncratic income risk. Self-enforcing contracts for both the original coalition and any coalition formed (joined) after deviations rely on a belief in future cooperation which we term “trust”. We treat the contracting conditions of original and deviation coalitions symmetrically and show that higher trust tightens incentive constraints since it facilitates the formation of deviating coalitions. As a consequence, although trust facilitates the initial formation of coalitions, the extent of risk sharing in successfully formed coalitions is declining in the extent of trust and efficient allocations might feature resource burning or utility burning: trust is indeed a double-edged sword.
Abstract
We derive a fully nonlinear optimal income tax schedule in the presence of private insurance. We fill the gap in the literature by studying the optimal tax formula with a comprehensive structure of the private markets—including incomplete markets models—both theoretically and quantitatively. As in the standard taxation literature without private insurance (e.g., Saez (2001)), the optimal tax formula can still be expressed in terms of standard sufficient statistics. With private insurance, however, the formula involves additional terms that reflect how the private market interacts with public insurance. For example, the optimal tax formula should also consider asset distribution and pecuniary externalities as well as the welfare effects of borrowing constraints.
Constrained Efficiency in a Human Capital Model, American Economic Journal : Macroeconomics, 2018, Volume 10, No. 3, 179-214 [PDF] [Online Appendix]
Abstract
This paper investigates whether capital and human capital are overaccumulated in an incomplete market economy. As in Dávila, Hong, Krusell and Ríos-Rull (2012), whether capital is overaccumulated depends on how the pecuniary externalities affect insurance and redistribution. In a human capital economy, however, not only capital but also human capital generates externalities and an additional channel arises that has implications for the overaccumulation (underaccumulation) of capital (human capital). The income sources of the poor and the correlation between wealth and human capital are crucial for the implication of pecuniary externalities. Realistically calibrated models exhibit underaccumulation (overaccumulation) of capital (human capital).
Optimal Taxation in a Limited Commitment Economy, Review of Economic Studies (2014) [PDF] [Online Appendix]
Abstract
This paper studies optimal Ramsey taxation when risk sharing in private insurance markets is imperfect due to limited enforcement. In a limited commitment economy, there are externalities associated with capital and labor because individuals do not take into account that their labor and saving decisions affect aggregate labor and capital supply and wages, and thus the value of autarky. Therefore, a Ramsey government has an additional goal, which is to internalize these externalities of labor and capital to improve risk sharing, in addition to its usual goal --- minimizing distortions in financing government expenditures. These two goals drive optimal capital and labor taxes in opposite directions. It is shown that the steady-state optimal capital income taxes are levied only to remove the negative externality of the capital, whereas optimal labor income taxes are set to meet the budgetary needs of the government in the long run, despite the presence of positive externalities of labor.
Utility Curvature and Unemployment Volatility, with Dongweon Lee, Korean Economic Review (2022)
Abstract
Can we resolve the unemployment volatility puzzle (Shimer, 2005) despite the cyclical opportunity cost of employment? Chodorow-Reich and Karabarbounis (2016) recently found that the opportunity cost of employment is highly procyclical, which poses significant challenges to the models of labor market fluctuations. Introducing procyclical opportunity cost inevitably weakens wage rigidity regardless of the exact types of wage bargaining, which dampens the labor market volatility. This paper studies the roles of the curvature of utility and the intensive margin of labor supply. Introducing nonlinear utility and elastic labor supply not only induces the opportunity cost of employment procyclical but also generates additional sources of labor market fluctuations—cyclical stochastic discount factor and hours worked. Our model with alternating-offer wage bargaining can replicate the observed labor market volatility, with the help of a high level of the elasticity of intertemporal substitution, despite the procyclicality of the opportunity cost of employment.