Bassetti, T., Greco, L. G. (2021).
Optimal Redistributive Policies by Publicly Provided Inputs and Income Taxation. Available at SSRN.
Governments redistribute income through taxes, transfers, and public services. Using three key statistics, we characterize the conditions under which nonlinear income taxation is optimally combined with a publicly provided input in economies where individual wages are driven by households’ exogenous abilities and unobservable input investments. A universal scheme in which all households opt for a large and uniform level of publicly provided input optimally compounds with nonlinear income taxation if input and ability are substitutes in households’ earnings. Calibrating our model with US data, we find that this scheme represents the optimal policy regime for a wide spectrum of plausible parameter values