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The Use of Both the Consumption Tax and the Wage Tax in an Incomplete Market

32 Pages Posted: 21 Jun 2007  

Hisahiro Naito

University of Tsukuba

Date Written: June 20, 2007

Abstract

In the standard multi-period model, the general consumption tax and the wage tax are equivalent. When a capital market is incomplete, such that the rate of return from capital is idiosyncratic, the consumption tax, in contrast to the wage tax, can play a role in risk-sharing. However, risk-sharing may disappear if the government applies a linear or non-linear capital income tax, because the source of risk is the return from capital. The present study shows that a consumption tax, when instituted in the presence of a wage tax, increases public welfare when the capital market is incomplete, even if the government applies a non-linear capital income tax for risk-sharing and subsidizes investments.

Keywords: Optimal taxation, Incomplete Market, consumption tax

JEL Classification: H20, H30

Suggested Citation

Naito, Hisahiro, The Use of Both the Consumption Tax and the Wage Tax in an Incomplete Market (June 20, 2007). Available at SSRN: https://ssrn.com/abstract=995667 or http://dx.doi.org/10.2139/ssrn.995667

Hisahiro Naito (Contact Author)

University of Tsukuba ( email )

Tennodai 1-1-1
Tsukuba City, Ibaraki Prefecture
Japan
81-29-853-7431 (Phone)

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