Public Economics Lectures Part 1: Introduction

Saez 2002: Optimal Tax Formula
Small reform dc i = −dT i > 0. Three effects:
1 Mechanical loss of tax revenue dM = h i dT i
2 Welfare Effect: each worker in job i gains dT i so welfare gain
dW = −g i h i dT i
No first order welfare loss for switchers
3 Behavioral Effect: dh i = −e i h i dT i /(c i − c 0 )
→Tax loss: dB = −(T i − T 0 )dh i = −e i h i dT i (T i − T 0 )/(c i − c 0 )
FOC: dM + dB + dW = 0 ⇒
τ i
1 − τ i
= T i − T 0
c i − c 0
= 1 e i
(1 − g i )
g 1 > 1 ⇒ T 1 − T 0 < 0 ⇒ work subsidy
Public Economics Lectures () Part 4: Optimal Taxation 104 / 121