Structural and Cyclical Effects of Tax Progression

Jana Kremer () and Nikolai Stähler
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Jana Kremer: Deutsche Bundesbank, Economics Department, Wilhelm-Epstein-Strasse 14, 60431 Frankfurt am Main, Germany

No 201305, IAAEU Discussion Papers from Institute of Labour Law and Industrial Relations in the European Union (IAAEU)

Abstract: In a real business cycle model with labor market frictions, we find that a more progressive tax schedule reduces structural unemployment as it fosters long-run incentives for job creation. Because there exists an optimal level of unemployment in a matching environment (“Hosios condition”), tax progression improves steady-state welfare up to a certain threshold and harms it beyond that. However, tax progression increases the costs of business cycles for those consumers who can save and borrow, while it reduces the business cycle costs for households with limited asset market participation (“rule-of-thumb” consumers). Our analysis suggests that business cycle effects dominate steady-state effects. On the aggregate level, tax progression is welfare-enhancing up to a certain threshold and always shifts relative utility from optimizing to rule-of-thumb consumers. These findings are quite robust to alternative calibrations of our model.

Keywords: Tax Progression; Business Cycles; Automatic Stabilizers; Welfare (search for similar items in EconPapers)
JEL-codes: E32 E62 H2 J6 (search for similar items in EconPapers)
Date: 2013-04
New Economics Papers: this item is included in nep-dge, nep-pbe and nep-pub
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Related works:
Journal Article: Structural and Cyclical Effects of Tax Progression (2016)
Working Paper: Structural and cyclical effects of tax progression (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:iaa:dpaper:201305

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