Series Foreword ............................................... vii
Acknowledgments ................................................ ix
1 Introduction ................................................. 1
2 From Tax Theory to Policy: An Overview ....................... 7
2.1 Landmarks of Optimal Tax Theory ......................... 7
2.2 The Evolution of Policy and Advice ..................... 16
2.3 Challenges for the Theory of Tax Policy ................ 26
2.3.1 Commitment ...................................... 26
2.3.2 Heterogeneity of Individual Utility Functions ... 30
2.3.3 Behavioral Issues ............................... 34
2.3.4 Responsibility and Compensation ................. 37
2.3.5 Political Economy ............................... 38
2.4 Optimal Analysis versus Reform Analysis ................ 40
2.5 Summary of Lessons for Tax Policy ...................... 44
3 Policy Lessons from Optimal Tax Theory ...................... 47
3.1 Uniformity of Commodity Taxes .......................... 51
3.1.1 The Corlett-Hague Theorem ....................... 51
3.1.2 The Atkinson-Stiglitz Theorem ................... 58
3.2 Production Efficiency: Implications and Caveats ........ 77
3.3 Capital Taxation and the Personal Tax Base ............. 85
3.3.1 Linear Taxation in a Dynamic Setting ............ 86
3.3.2 Nonlinear Taxation in a Dynamic Setting ......... 95
3.4 The Issue of Progressivity ............................ 106
3.5 Asymmetric Information and Market Failure ............. 124
3.6 Policy Lessons from Normative Analysis ................ 133
3.6.1 Uniform Broad-Based Commodity Taxation ......... 134
3.6.2 Production Efficient Taxation .................. 135
3.6.3 Taxation of Asset Income ....................... 135
3.6.4 Progressivity .................................. 136
3.6.5 Business Taxation .............................. 137
4 Relaxing the Second-Best Constraints ....................... 139
4.1 The Use of Supplementary Policy Instruments ........... 143
4.2.1 Differential Commodity Taxes ................... 144
4.1.1 Public Goods and the Marginal Cost of Public
Funds .......................................... 146
4.1.2 Quantity Controls: In-kind Transfers ........... 148
4.1.3 Price Controls ................................. 153
4.1.4 Workfare ....................................... 157
4.1.5 Other Issues Affecting Instrument Choice ....... 162
4.2 Making Use of, and Acquiring, More Information ........ 168
4.2.1 Tagging ........................................ 169
4.2.2 Monitoring ..................................... 174
4.3 Conclusions ........................................... 182
5 Challenges for Second-Best Analysis ........................ 185
5.1 Fundamentals of the Standard Approach ................. 185
5.2 The Commitment Issue .................................. 193
5.3 Heterogeneous Preferences and Utility ................. 199
5.3.1 Needs .......................................... 201
5.3.2 Disutility of Work ............................. 202
5.3.3 Other Dimensions of Taste Differences .......... 204
5.3.4 Interdependent Utilities ....................... 205
5.3.5 Dealing with Differences in Preferences: One
Proposed Approach .............................. 212
5.4 Behavioral Issues ..................................... 217
5.4.1 Bounded Rationality ............................ 218
5.4.2 Irrational Choices ............................. 220
5.4.3 Nonselfish Choices ............................. 225
5.4.4 Happiness ...................................... 228
5.5 Political Economy ..................................... 229
5.6 Concluding Comments ................................... 239
References .................................................... 243
Index ......................................................... 269
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