Individual Heterogeneity, Nonlinear Budget Sets, and Taxable Income

45 Pages Posted: 7 May 2015

See all articles by Soren Blomquist

Soren Blomquist

Uppsala University - Department of Economics; CESifo (Center for Economic Studies and Ifo Institute)

Anil Kumar

Federal Reserve Bank of Dallas - Research Department

Che-Yuan Liang

Uppsala University - Department of Economics

Whitney K. Newey

Massachusetts Institute of Technology (MIT) - Department of Economics; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: April 29, 2015

Abstract

Many studies have estimated the effect of taxes on taxable income. To account for nonlinear taxes these studies either use instrumental variables approaches that are not fully consistent, or impose strong functional form assumptions. None allow for general heterogeneity in preferences. In this paper we derive the expected value and distribution of taxable income, conditional on a nonlinear budget set, allowing general heterogeneity and optimization error in taxable income. We find an important dimension reduction and use that to develop nonparametric estimation methods. We show how to nonparametrically estimate the expected value of taxable income imposing all the restrictions of utility maximization and allowing for measurement errors. We characterize what can be learned nonparametrically from kinks about compensated tax effects. We apply our results to Swedish data and estimate for prime age males a significant net of tax elasticity of 0.21 and a significant nonlabor income effect of about -1. The income effect is substantially larger in magnitude than found in other taxable income studies.

Keywords: nonlinear budget sets, nonparametric estimation, heterogeneous preferences, taxable income, revealed stochastic preference

JEL Classification: C140, C240, H300, H310, J220

Suggested Citation

Blomquist, Soren and Kumar, Anil and Liang, Che-Yuan and Newey, Whitney K., Individual Heterogeneity, Nonlinear Budget Sets, and Taxable Income (April 29, 2015). CESifo Working Paper Series No. 5320. Available at SSRN: https://ssrn.com/abstract=2603189

Soren Blomquist (Contact Author)

Uppsala University - Department of Economics ( email )

Box 513
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Sweden
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CESifo (Center for Economic Studies and Ifo Institute)

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HOME PAGE: http://www.CESifo.de

Anil Kumar

Federal Reserve Bank of Dallas - Research Department ( email )

2200 North Pearl Street
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Dallas, TX 75265-5906
United States

Che-Yuan Liang

Uppsala University - Department of Economics ( email )

Box 513
SE-75120 Uppsala
Sweden

Whitney K. Newey

Massachusetts Institute of Technology (MIT) - Department of Economics ( email )

50 Memorial Drive
E52-262D
Cambridge, MA 02142
United States
617-253-6420 (Phone)

National Bureau of Economic Research (NBER) ( email )

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