Testing the Mill Hypothesis of Fiscal Illusion
University of Copenhagen Economics Working Paper No. 04-18
40 Pages Posted: 19 Apr 2005 Last revised: 17 Oct 2008
Date Written: 2004
According to the Mill hypothesis, the tax burden from indirect taxation is underestimated because indirect taxes are less visible than direct taxes. We experimentally test the Mill hypothesis and identify tax framing as a cause of fiscal illusion. We find that the tax burden associated with an indirect tax is underestimated, whereas this is not the case with an equivalent direct tax. In a referendum to tax and redistribute tax revenue, fiscal illusion is found to distort democratic decisions and to result in excessive redistribution. Yet, voters eventually learn to overcome fiscal illusion.
Keywords: Fiscal illusion, voting behavior, indirect taxation, redistribution, learning
JEL Classification: C92, H22, D72
Suggested Citation: Suggested Citation