American Economic Review: Vol. 99 No. 1 (March 2009)


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Taxing Capital? Not a Bad Idea after All!

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Conesa, Juan Carlos, Sagiri Kitao, and Dirk Krueger. 2009. "Taxing Capital? Not a Bad Idea after All!" American Economic Review, 99(1): 25-48.

DOI: 10.1257/aer.99.1.25


We quantitatively characterize the optimal capital and labor income tax in an overlapping generations model with idiosyncratic, uninsurable income shocks and permanent productivity differences of households. The optimal capital income tax rate is significantly positive at 36 percent. The optimal progressive labor income tax is, roughly, a flat tax of 23 percent with a deduction of $7,200 (relative to average household income of $42,000). The high optimal capital income tax is mainly driven by the life-cycle structure of the model, whereas the optimal progressivity of the labor income tax is attributable to the insurance and redistribution role of the tax system. (JEL E13, H21, H24, H25)

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Conesa, Juan Carlos (U Autonoma de Barcelona)
Kitao, Sagiri (U Southern CA)
Krueger, Dirk (U PA)

JEL Classifications

E13: General Aggregative Models: Neoclassical
H21: Taxation and Subsidies: Efficiency; Optimal Taxation
H24: Personal Income and Other Nonbusiness Taxes and Subsidies; includes inheritance and gift taxes
H25: Business Taxes and Subsidies including sales and value-added (VAT)

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