DP14853 Pareto-improving tax reforms and the Earned Income Tax Credit

Author(s): Felix Bierbrauer, Pierre Boyer, Emanuel Hansen
Publication Date: June 2020
Keyword(s): Earned Income Tax Credit, Non-linear income taxation, optimal taxation, Tax Reforms
JEL(s): C72, D72, D82, H21
Programme Areas: Public Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=14853

This paper provides necessary and suffcient conditions for the existence of Pareto-improving tax reforms. The conditions can be expressed as suffcient statistics and have a wide range of potential applications in public finance. We discuss one such application in detail: the introduction of the Earned Income Tax Credit (EITC) in the US. We find that the EITC can be viewed as a response to an inefficiency in the tax and transfer system prevailing at the time. This adds a new perspective to the literature on why the EITC is a good idea, emphasizing Pareto improvements rather than equity-efficiency trade-offs.