Discussion Papers, Department of Business and Management Science, Norwegian School of Economics (NHH)
Floris T. Zoutman
Optimal Redistribution and Monitoring of Labor Effort
() and Bas Jacobs
Abstract: This paper extends the Mirrlees (1971) model of optimal
non-linear income taxation with a monitoring technology that allows the
government to verify labor effort at a positive, but non-infinite cost. We
analyze the joint determination of the non-linear monitoring and tax
schedules and the conditions under which these can be implemented.
Monitoring of labor effort reduces the distortions created by income
taxation and raises optimal marginal tax rates, possibly above 100 percent.
The optimal intensity of monitoring increases with the marginal tax rate
and the labor-supply elasticity. Our simulations demonstrate that
monitoring strongly alleviates the trade-off between equity and efficiency
as welfare gains of monitoring are around 1.4 percent of total output. The
optimal intensity of monitoring follows a U-shaped pattern, similar to that
of optimal marginal tax rates. Our paper can explain why large welfare
states optimally rely on work-dependent tax credits, active labormarket
policies, benefit sanctions and work bonuses in welfare programs to
redistribute income efficiently.
Keywords: Optimal non-linear taxation; monitoring; costly verification ability/effort; optimal redistribution; (follow links to similar papers)
JEL-Codes: H21; H24; H26; H31; (follow links to similar papers)
33 pages, September 24, 2014
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