DYNAMIC OPTIMAL TAXATION MIRRLEES’ APPROACH: A REVIEW
Keywords: Mirrlees model, dynamic taxes, inverse Euler equation, labor taxes, capital taxes, heterogeneous ability
This paper reviews recent advances in dynamic capital taxation considering the dynamic Mirrlees approach. Dynamic taxes are not restricted ex ante and are set for redistribution and insurance considerations. Capital is taxed in order to improve incentives to work. On average wealth taxes across individuals are zero ex-ante. However, they depend on future labor income-if labor income is below average, your capital tax is positive. If your labor income is above average, then your capital tax is negative. The fact that the capital tax varies in this regressive way makes investment risky and creates a positive risk premium, which explains how it is possible to have a positive intertemporal wedge/tax. Even though taxes are zero ex-ante.