Scandinavian Working Papers in Economics

Umeå Economic Studies,
Umeå University, Department of Economics

No 983: A Note on Optimal Taxation, Status Consumption, and Unemployment

Thomas Aronsson () and Olof Johansson-Stenman ()
Additional contact information
Thomas Aronsson: Department of Economics, Umeå University, Postal: Department of Economics, Umeå University, S 901 87 Umeå, Sweden
Olof Johansson-Stenman: Department of Economics, School of Business, Economics and Law, University of Gothenburg

Abstract: Existing research on optimal taxation in economies with status-driven relative consumption assumes that the labor market is competitive, despite the fact that real world labor markets are typically characterized by involuntary unemployment. We show how the marginal tax policy ought to be modified to simultaneously account for positional consumption externalities and equilibrium unemployment, and find that interaction effects between these two market failures are crucial determinants of the marginal tax structure. In certain cases, the policy incentive to tax away positional externalities vanishes completely, and negative positional externalities may even lead to lower marginal taxation, under involuntary unemployment.

Keywords: Optimal taxation; relative consumption; externalities; unemployment

JEL-codes: D62; D90; H21; H23; J64

20 pages, December 3, 2020

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