SMU SOE Seminar (May 23, 2018): Optimal Taxation with Private Insurance

We derive a fully nonlinear optimal income tax schedule in the presence of private insurance. As in the standard taxation literature without private insurance (e.g., Saez (2001)), the optimal tax formula can still be expressed in terms of sufficient statistics such as the labor supply elasticity. With private insurance, however, the formula involves the statistics that reflect households’ savings pattern (the marginal propensity to save) and their interaction with public insurance (crowding in/out elasticity). Since these statistics are neither easy to estimate nor policy-invariant, we obtain them from a structural model calibrated to reproduce salient features of the U.S. economy.

Keywords: Optimal Taxation, Private Insurance, Crowding Out, Variational Approach