Evidence on the Insurance Effect of Marginal Income Taxes

Posted: 25 Sep 2008  

Charles Grant

University of Reading

Christos Koulovatianos

Universite du Luxembourg - Faculty of Law, Economics and Finance

Alexander Michaelides

Imperial College Business School; Centre for Economic Policy Research (CEPR)

Mario Padula

University "Ca' Foscari" of Venice; CSEF

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Date Written: February 1, 2008

Abstract

Marginal income taxes may have an insurance effect by decreasing the effective fluctuations of after-tax individual income. By compressing the idiosyncratic component of personal income fluctuations, higher marginal taxes should be negatively correlated with the dispersion of consumption across households, a necessary implication of an insurance effect of taxation. Our study empirically examines this negative correlation, exploiting the ample variation of state taxes across US states. We show that taxes are negatively correlated with the consumption dispersion of the within-state distribution of non-durable consumption and that this correlation is robust.

Keywords: Undiversifiable Earnings Risk, Consumption Insurance, Tax Distortions

JEL Classification: E21, H20, H31

Suggested Citation

Grant, Charles and Koulovatianos, Christos and Michaelides, Alexander and Padula, Mario, Evidence on the Insurance Effect of Marginal Income Taxes (February 1, 2008). CFS Working Paper No. 2008/06. Available at SSRN: https://ssrn.com/abstract=1273558

Charles Grant

University of Reading ( email )

Whiteknights
Reading, Berkshire RG6 6AH
United Kingdom

Christos Koulovatianos (Contact Author)

Universite du Luxembourg - Faculty of Law, Economics and Finance ( email )

162a, avenue de la Faïencerie
Luxembourg-Limpertsberg, L-1511
Luxembourg

Alexander Michaelides

Centre for Economic Policy Research (CEPR)

77 Bastwick Street
London, EC1V 3PZ
United Kingdom

Imperial College Business School ( email )

South Kensington Campus
Exhibition Road
London SW7 2AZ, SW7 2AZ
United Kingdom

Mario Padula

University "Ca' Foscari" of Venice ( email )

Dorsoduro 3246
Venice, Veneto 30123
Italy
+390412349181 (Phone)
+390412349176 (Fax)

CSEF

Via Don Melillo I
Fisciano, Salerno, 84084
Italy

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