Optimal Redistribution and Monitoring of Labor Effort

34 Pages Posted: 13 Mar 2014

See all articles by Floris Zoutman

Floris Zoutman

Norwegian School of Economics (NHH) - Department of Business and Management Science

Bas Jacobs

Erasmus University Rotterdam (EUR); Tinbergen Institute; CESifo (Center for Economic Studies and Ifo Institute)

Date Written: February 21, 2014

Abstract

This paper extends the Mirrlees (1971) model of optimal non-linear income taxation with a monitoring technology that allows the government to verify labor effort at a positive, but non-infinite cost. Monitored individuals receive a penalty, which increases if individuals earn a lower income (provide less work effort) or have a higher earning ability. We analyze the joint determination of the non-linear monitoring and tax schedules and the conditions under which these can be implemented. Monitoring of labor effort reduces the distortions created by income taxation and raises optimal marginal tax rates, possibly above 100 percent. The optimal intensity of monitoring increases with the marginal tax rate and the labor-supply elasticity. Our simulations demonstrate that monitoring strongly alleviates the trade-off between equity and efficiency as welfare gains of monitoring are around 1.4 percent of total output. The optimal intensity of monitoring follows a U-shaped pattern, similar to that of optimal marginal tax rates. Our paper explains why large welfare states optimally rely on work-dependent tax credits, active labor-market policies, benefit sanctions and work bonuses in welfare programs to redistribute income efficiently.

Keywords: optimal non-linear taxation, monitoring, costly verification ability/effort, optimal redistribution

JEL Classification: H210, H260, H240, H310

Suggested Citation

Zoutman, Floris and Jacobs, Bas, Optimal Redistribution and Monitoring of Labor Effort (February 21, 2014). CESifo Working Paper Series No. 4646, Available at SSRN: https://ssrn.com/abstract=2407883

Floris Zoutman

Norwegian School of Economics (NHH) - Department of Business and Management Science ( email )

Helleveien 30
Bergen, NO-5045
Norway

Bas Jacobs (Contact Author)

Erasmus University Rotterdam (EUR) ( email )

PO Box 1738
Rotterdam, Zuid-Holland 3000 DR
Netherlands
+314081452 (Phone)

HOME PAGE: http://personal.eur.nl/bjacobs

Tinbergen Institute ( email )

Burg. Oudlaan 50
Rotterdam, 3062 PA
Netherlands

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
32
Abstract Views
361
PlumX Metrics