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Optimal taxation when people do not maximize well-being

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Gerritsen,  Aart
Public Economics, MPI for Tax Law and Public Finance, Max Planck Society;

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Citation

Gerritsen, A. (2016). Optimal taxation when people do not maximize well-being. Journal of Public Economics, 144, 122-139. doi:10.1016/j.jpubeco.2016.10.006.


Cite as: http://hdl.handle.net/11858/00-001M-0000-002C-4D6D-A
Abstract
I derive the optimal nonlinear income tax when individuals do not necessarily maximize their own well-being. This generates a corrective argument for taxation: optimal marginal taxes are higher (lower) if individuals work too much (too little) from a well-being point of view. I allow for multi-dimensional heterogeneity and derive the optimal tax schedule in terms of measurable sufficient statistics. One of these statistics measures the degree to which individuals fail to optimize their labor supply. I empirically estimate this by using British life satisfaction data as a measure of well-being. I find that low-income workers tend to work 'too little' and high-income workers 'too much,' providing a motive for lower marginal tax rates at the bottom and higher marginal tax rates at the top of the income distribution.