High Marginal Tax Rates on the Top 1%? Lessons from a Life Cycle Model with Idiosyncratic Income Risk

52 Pages Posted: 14 Oct 2014 Last revised: 16 Oct 2014

See all articles by Fabian Kindermann

Fabian Kindermann

University of Bonn - Faculty of Law & Economics; Netspar

Dirk Krueger

University of Pennsylvania - Department of Economics; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

Date Written: October 10, 2014

Abstract

In this paper we argue that very high marginal labor income tax rates are an effective tool for social insurance even when households have preferences with high labor supply elasticity, make dynamic savings decisions, and policies have general equilibrium effects. To make this point we construct a large scale Overlapping Generations Model with uninsurable labor productivity risk, show that it has a wealth distribution that matches the data well, and then use it to characterize fiscal policies that achieve a desired degree of redistribution in society. We find that marginal tax rates on the top 1% of the earnings distribution of close to 90% are optimal. We document that this result is robust to plausible variation in the labor supply elasticity and holds regardless of whether social welfare is measured at the steady state only or includes transitional generations.

Keywords: Progressive Taxation, Top 1%, Social Insurance, Income Inequality

JEL Classification: E62, H21, H24

Suggested Citation

Kindermann, Fabian and Krueger, Dirk, High Marginal Tax Rates on the Top 1%? Lessons from a Life Cycle Model with Idiosyncratic Income Risk (October 10, 2014). PIER Working Paper No. 14-036, Available at SSRN: https://ssrn.com/abstract=2509367 or http://dx.doi.org/10.2139/ssrn.2509367

Fabian Kindermann

University of Bonn - Faculty of Law & Economics ( email )

Postfach 2220
D-53012 Bonn
Germany

Netspar ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

Dirk Krueger (Contact Author)

University of Pennsylvania - Department of Economics ( email )

Ronald O. Perelman Center for Political Science
133 South 36th Street
Philadelphia, PA 19104-6297
United States
215-898-6691 (Phone)
215-573-2057 (Fax)

HOME PAGE: http://www.econ.upenn.edu/~dkrueger/

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Centre for Economic Policy Research (CEPR)

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