Marginal Tax Changes with Risky Investment

46 Pages Posted: 6 May 2021

See all articles by Patrick Macnamara

Patrick Macnamara

The University of Manchester - Department of Economics

Myroslav Pidkuyko

Banco de España; University of Manchester - Department of Economics

Raffaele Rossi

The University of Manchester - Department of Economics

Date Written: May 5, 2021

Abstract

Using an estimated life-cycle model, we quantify the role of heterogeneity in wealth returns for the response of income to marginal tax changes. In our economy, agents who are sufficiently productive can obtain higher returns by choosing to be entrepreneurs. Return heterogeneity amplifies the responsiveness of total income to marginal tax changes along the entire income distribution with the top 1 percent displaying the highest elasticities. Return heterogeneity increases the incentives to invest for the richest, high-return entrepreneurs, thus amplifying their income responses to marginal tax changes. This reallocation of capital increases aggregate productivity, generating a larger boost in equilibrium wages. This in turn strengthens the income response of the bottom 90 percent, but nevertheless, their response is smaller than at the top.

Keywords: risky investment, elasticity of taxable income, life-cycle, entrepreneurs, structural estimation

JEL Classification: E62, H21, H24

Suggested Citation

Macnamara, Patrick and Pidkuyko, Myroslav and Rossi, Raffaele, Marginal Tax Changes with Risky Investment (May 5, 2021). Banco de Espana Working Paper No. 2116, Available at SSRN: https://ssrn.com/abstract=3840072 or http://dx.doi.org/10.2139/ssrn.3840072

Patrick Macnamara (Contact Author)

The University of Manchester - Department of Economics ( email )

Arthur Lewis Building
Oxford Road
Manchester, M13 9PL
United Kingdom

Myroslav Pidkuyko

Banco de España ( email )

Alcala 50
Madrid 28014
Spain

University of Manchester - Department of Economics ( email )

Arthur Lewis Building
Oxford Road
Manchester, M13 9PL
United Kingdom
447538278604 (Phone)

Raffaele Rossi

The University of Manchester - Department of Economics

Arthur Lewis Building
Oxford Road
Manchester, M13 9PL
United Kingdom

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