Optimal Income Taxation: Mirrlees Meets Ramsey
What structure of income taxation maximizes the social benefits of redistribution while minimizing the social harm associated with distorting the allocation of labor input? Many authors have advocated scrapping the current tax system, which redistributes primarily via marginal tax rates that rise with income, and replacing it with a flat tax system, in which marginal tax rates are constant and redistribution is achieved via non-means-tested transfers. In this paper we compare alternative tax systems in an environment with distinct roles for public and private insurance. We evaluate ...
Intergenerational Redistribution in the Great Recession
We construct a stochastic overlapping-generations general equilibrium model in which households are subject to aggregate shocks that affect both wages and asset prices. We use a calibrated version of the model to quantify how the welfare costs of big recessions are distributed across different household age groups. The model predicts that younger cohorts fare better than older cohorts when the equilibrium decline in asset prices is large relative to the decline in wages. Asset price declines hurt the old, who rely on asset sales to finance consumption, but benefit the young, who purchase ...
Dollarization and financial integration
How does a country?s choice of exchange rate regime impact its ability to borrow from abroad? We build a small open economy model in which the government can potentially respond to shocks via domestic monetary policy and by international borrowing. We assume that debt repayment must be incentive compatible when the default punishment is equivalent to permanent exclusion from debt markets. We compare a floating regime to full dollarization. We find that dollarization is potentially beneficial, even though it means the loss of the monetary instrument, precisely because this loss can strengthen ...
Housing and the business cycle
In the United States, the percentage standard deviation of residential investment is more than twice that of non-residential investment. In addition, GDP, consumption, and both types of investment co-move positively. We reproduce these facts in a calibrated multi-sector growth model where construction, manufacturing and services are combined, in different proportions, to produce consumption, business investment and residential structures. New housing requires land in addition to new structures. The model can also account for important features of industry-level data. In particular, hours and ...
The price and quantity of residential land in the United States
We combine publicly available data from Freddie Mac, the Decennial Census of Housing, and the Bureau of Economic Analysis to construct the first constant-quality aggregate price index for the stock of residential land in the United States. We uncover five main results: (a) since 1970, residential land prices have grown faster but (b) have also been twice as volatile as existing home prices; (c) averaged from 1970 to 2003, the nominal stock of residential land under 1-4 unit structures accounts for 38% of the market value of the housing stock and is equal to 50% of nominal annual GDP; (d) the ...
The international diversification puzzle is not as bad as you think
In simple one-good international macro models, the presence of non-diversifiable labor income risk means that country portfolios should be heavily biased toward foreign assets. The fact that the opposite pattern of diversification is observed empirically constitutes the international diversification puzzle. We embed a portfolio choice decision in a frictionless two-country, two-good version of the stochastic growth model. In this environment, which is a workhorse for international business cycle research, we derive a closed-form expression for equilibrium country portfolios. These are biased ...
Consumption and labor supply with partial insurance: an analytical framework
This paper studies consumption and labor supply in a model where agents have partial insurance and face risk and initial heterogeneity in wages and preferences. Equilibrium allocations and variances and covariances of wages, hours and consumption are solved for analytically. We prove that all parameters of the structural model are identified given panel data on wages and hours, and cross-sectional data on consumption. The model is estimated on US data. Second moments involving hours and consumption show that the rise in wage dispersion in the 1970s was effectively insured by households, while ...
Optimal Progressivity with Age-Dependent Taxation
This paper studies optimal taxation of labor earnings when the degree of tax progressivity is allowed to vary with age. We analyze this question in a tractable equilibrium overlapping-generations model that incorporates a number of salient trade-offs in tax design. Tax progressivity provides insurance against ex-ante heterogeneity and earnings uncertainty that missing markets fail to deliver. However, taxes distort labor supply and human capital investments. Uninsurable risk cumulates over the life cycle, and thus the welfare gains from income compression via progressive taxation increase ...
College Tuition and Income Inequality
This paper evaluates the role of rising income inequality in explaining observed growth in college tuition. We develop a competitive model of the college market in which college quality depends on instructional expenditure and the average ability of admitted students. An innovative feature of our model is that it allows for a continuous distribution of college quality. We find that observed increases in US income inequality can explain more than the entire observed rise in average net tuition since 1990 and that rising income inequality has also depressed college attendance.
Dollarization and financial integration
How does a country's choice of exchange rate regime impact its ability to borrow from abroad? We build a small open economy model in which the government can potentially respond to shocks via domestic monetary policy and by international borrowing. We assume that debt repayment must be incentive compatible when the default punishment is equivalent to permanent exclusion from debt markets. We compare a floating regime to full dollarization. ; We find that dollarization is potentially beneficial, even though it means the loss of the monetary instrument, precisely because this loss can ...