Events at CERGE-EI

Prof. Max Gillman

Cardiff Business School, Cardiff University, United Kingdom

Authors: Max Gillman, Michal Kejak

Abstract: The paper offers an explanation of how US postwar tax rates could have declined while keeping the share of government expenditure in output constant. It does this through a human capital–based endogenous growth economy extended to include a decentralized tax evasion service. Supplied by a competitive financial intermediation technology, the degree of tax evasion establishes a Laffer curve in terms of tax revenue normalized by output. The elasticity of reporting income with respect to the tax rate rises with the degree of tax evasion. An increase in the productivity of the goods and human capital sector shifts up the Laffer curve and thereby allows for tax rate reduction given a constant share of government revenue in output. We provide estimates for the increase in postwar US goods and human capital sectoral productivity and also provide a measure of the decline in marginal tax rates and average high income bracket tax rates. Given several simplifying assumptions, the joint sectoral productivity increases explain 8% of the actual decline in a weighted average of top marginal personal and corporate tax rates, and alternatively 16% of a similar weighted average using average tax rates in the high income bracket.