On the Optimal Timing of Taxes

Hassler, John; Krusell, Per; Storesletten, Kjetil; Zilibotti, Fabrizio

On the Optimal Timing of Taxes

43 Pages Posted: 31 Jan 2005

John Hassler

Stockholm University - Institute for International Economic Studies (IIES); Centre for Economic Policy Research (CEPR); CESifo (Center for Economic Studies and Ifo Institute); IZA Institute of Labor Economics

Per Krusell

Princeton University - Department of Economics; Stockholm University - Institute for International Economic Studies (IIES); Centre for Economic Policy Research (CEPR)

Kjetil Storesletten

University of Oslo - Department of Economics; Centre for Economic Policy Research (CEPR)

Fabrizio Zilibotti

University of Zurich; Centre for Economic Policy Research (CEPR)

Date Written: November 2004

Abstract

This Paper analyzes the optimal timing of taxes on capital income. We show that the celebrated result that taxes should be front-loaded with an initially high tax followed by a discrete jump to the steady state is knife-edge, hinging on capital having a constant depreciation rate. An empirically supported deviation from this case, involving depreciation rates that increase over the lifespan of the investment, implies that optimal taxes should oscillate. Furthermore, the optimality of fluctuating tax rates hinges on the government being able to commit to the path of future tax rates. Without commitment, optimal taxes may be smooth also under accelerating depreciation. In a calibrated example, we find that optimal taxes are oscillating under commitment and smooth without commitment.

Keywords: Optimal taxation, tax dynamics, time-consistency, capital depreciation

JEL Classification: D90, E61, H21, H30

Suggested Citation: Suggested Citation

Hassler, John and Krusell, Per L. and Storesletten, Kjetil and Zilibotti, Fabrizio, On the Optimal Timing of Taxes (November 2004). CEPR Discussion Paper No. 4731, Available at SSRN: https://ssrn.com/abstract=653801