DP10418 Capital Taxation under Political Constraints

Author(s): Florian Scheuer, Alexander Wolitzky
Publication Date: February 2015
Keyword(s): Coalition Formation, Inequality, Tax Reforms, Wealth Taxation
JEL(s): D3, D6, D9, E6, H2, P5
Programme Areas: Public Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=10418

This paper studies optimal dynamic tax policy under the threat of political reform. A policy will be reformed ex post if a large enough political coalition supports reform; thus, sustainable policies are those that will continue to attract enough political support in the future. We find that optimal marginal capital taxes are either progressive or U-shaped, so that savings are subsidized for the poor and/or the middle class but are taxed for the rich. U-shaped capital taxes always emerge when the salient reform threat consists of radically redistributing capital and individuals' political behavior is purely determined by economic motives.