Theoretical analysis demonstrates optimal non-linear income tax schedules under asymmetric information, highlighting trade-offs between economic efficiency and social equity.
Key Points
To formulate and solve the mathematical problem of designing an optimal non-linear income tax schedule that balances redistributive equity with labor supply incentives when individual productive abilities cannot be observed directly.
Formulated a social planner model maximizing a utilitarian social welfare function subject to government revenue requirements and asymmetric information on individual labor productivity.
Employed optimal control theory and the calculus of variations to derive first-order conditions for incentive-compatible non-linear tax schedules.
Conducted numerical simulations using calibrated ability distributions to evaluate the resulting optimal marginal tax rate curves.
Demonstrated that information asymmetry fundamentally constrains redistribution, requiring non-zero marginal tax rates to deter higher-ability workers from mimicking lower earners.
Showed that under standard distributional assumptions, optimal marginal tax rates remain relatively low across most income levels and approach zero at the extreme top of the skill distribution.