Taxation and Risk Taking: A General Equilibrium Perspective

30 Pages Posted: 24 Aug 2010

See all articles by Louis Kaplow

Louis Kaplow

Harvard Law School; National Bureau of Economic Research (NBER)

Date Written: May 1991

Abstract

Taxation and risk taking are examined in a general equilibrium model that incorporates uncertain government revenue in a nonrestrictive manner and allows the government to influence its revenue through portfolio investments as well as through tax policy. It is demonstrated that each of a wide range of taxes can be decomposed into some combination of a wage tax, an ex ante wealth tax, and a modification of the government's investment portfolio. For example, a tax on investment returns (from risky and riskless assets) is equivalent, with an adjustment in the government's portfolio, to a tax on the riskless component of investment returns or to an ex ante wealth tax -- both of which absorb no private risk and yield certain revenue. The concept of equivalence employed is strong: two regimes are equivalent if, for each state of nature, individuals' wealth and government revenue are the same under both regimes and total investment in each asset is the same. Implications for behavior (private and total risk taking) and welfare are immediate. Moreover, these results are independent of the government's objective function, the manner in which individual utility depends on government expenditures, and some of the restrictive assumptions found necessary in previous treatments of the problem.

Suggested Citation

Kaplow, Louis, Taxation and Risk Taking: A General Equilibrium Perspective (May 1991). NBER Working Paper No. w3709. Available at SSRN: https://ssrn.com/abstract=1663534

Louis Kaplow (Contact Author)

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