Scandinavian Working Papers in Economics

Working Paper Series,
Uppsala University, Department of Economics

No 2007:12: Wage Formation and Redistribution

Per Engström ()
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Per Engström: Department of Economics, Postal: Uppsala University, P.O. Box 513, SE-751 20 Uppsala, Sweden

Abstract: The paper extends the basic Stiglitz (1982) model of optimal nonlinear income taxation into a model featuring endogenous unemployment and wages. This means that the government needs to consider the effects on wages and unemployment when designing the optimal tax function. The tax systems’ effects on the wage formation and the unemployment rates result in new intricate redistribution channels. A key result of the paper is that the government may, in order to redistribute, use the marginal tax rates to raise the unemployment rate for the high-skilled and lower it for the low-skilled workers.

Keywords: Optimal Non-Linear Income Taxation; Wage Formation; Tax Progressivity; Unemployment

JEL-codes: H21; J22; J41; J64

22 pages, February 13, 2007

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