Optimal progressivity of personal income tax: a general equilibrium evaluation for Spain
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Optimal progressivity of personal income tax: a general equilibrium evaluation for Spain Darío Serrano-Puente1 Received: 25 March 2020 / Accepted: 3 November 2020 / Published online: 25 November 2020 © The Author(s) 2020
Abstract Is the Spanish economy positioned at its optimal progressivity level in personal income tax? This article quantifies the aggregate, distributional, and welfare consequences of moving toward such an optimal level. A heterogeneous households general equilibrium model featuring both life cycle and dynastic elements is calibrated to replicate some characteristics of the Spanish economy and used to evaluate potential reforms of the tax system. The findings suggest that increasing progressivity would be optimal, even though it would involve an efficiency loss. The optimal reform of the tax schedule would reduce wealth and income inequality at the cost of negative effects on capital, labor, and output. Finally, these theoretical results are evaluated using tax microdata and describe a current scenario where the income-top households typically face suboptimal effective average tax rates. Keywords Income tax · Progressivity · Inequality · Income and wealth distribution · General equilibrium · Heterogeneous agents JEL Classification D31 · C68 · E62 · H21
1 Introduction Many modern governments implement a redistributive fiscal policy, where personal income is taxed at an increasingly higher rate, while transfers tend to target the poorest
I acknowledge the support of my master’s thesis supervisor at Universität Mannheim, Dr. Pytka, and the very helpful comments of Dr. Kirkby, Dr. Pijoan-Mas, and Dr. Ramos Magdaleno. The views expressed in this paper are those of the author and do not necessarily coincide with the views of the Bank of Spain or the Eurosystem. MATLAB and Stata codes are available upon request.
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Darío Serrano-Puente [email protected] https://sites.google.com/view/darioserranopuente/ Banco de España, Madrid, Spain
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households. The taxation of personal income is not a minor issue, since most of the OECD economies obtain a large proportion of their tax collection through it.1 In Spain, there is an intense debate about how to finance the fiscal stimulus recovery plans to alleviate the economic consequences of the COVID-19 crisis and, more precisely, about how to deal with the unavoidable and needed fiscal consolidation process that will surely follow the enormous government fiscal effort. In particular, this growing political debate is taking up many headlines on the so-called “fiscal justice,” which is putting on the table a tax rate increase for the high-income earners, i.e., an increase in the progressivity of the personal income tax. These policies are initially developed to produce a more egalitarian distribution of income and, consequently, to provide social insurance for both currently living households that suffer from large income fluctuations, and for future generations that face uncertainty about what their initial state will be. Rais
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