Fiscal Policy, Inequality and Welfare: Volume 10

Table of contents

(12 chapters)

Contents

Pages V-VI
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INTRODUCTION

Pages IX-X

The purpose of Volume 10 is to collect together original research papers on fiscal policy (taxes and transfers) and inequality. The first two chapters of Volume 10 address methodological issues in tax progressivity measurement. John Creedy examines the questions of to what extent can redistribution be achieved using a structure of consumption taxes with different rates and exemptions. The paper shows that progressivity is maximized when only one commodity group is taxed, the commodity group with the largest total expenditure elasticity. Generalizing this result, Creedy shows that the tax rate should fall as the total elasticity falls. Creedy illustrates his approach using data on Australia’s indirect tax system. In Chapter 2 Lea Achdut, Yasser Awad, and Jacques Silber propose an alternative way to define tax progressivity as a function of marginal, not average tax rates. Changes in tax progressivity indices are usually defined in terms of changes in average tax rates, while changes in tax policy are usually stated in terms of changes in marginal tax rates. Thus, this paper fills a gap between theory and applied work. They apply their approach to study the progressivity of Israel’s National Insurance tax system.

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This paper examines the question of the extent to which redistribution can be achieved using a structure of consumption taxes with differential rates and exemptions. A local measure of progression, that of liability progression (equivalent to the revenue elasticity) is examined. Results are obtained for the Australian indirect tax structure. These are compared with structures in which only commodity groups with total expenditure elasticities greater than 1 are taxed. Comparisons are also made using equivalent variations, and inequality measures of a money metric welfare measure are reported.

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The paper proposes an alternative way of defining tax progressivity, one in which it becomes a function of marginal, not average tax rates. Changes in Tax Progressivity are then related to modifications in the distribution of pre-tax incomes or to variations in marginal rates. Using Israel’s Wage and Insurance Data File for the year 1993, the empirical analysis checks the impact of the 1995 Law for the Reduction of Poverty and Income Disparities on the progressivity of the National Insurance Tax System. Simulations are also conducted to study the effect of alternative policies.

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Some personal income tax breaks reward socially approved activities, others serve the interests of tax administrators and special interest groups. All give rise to classical HI. We allow for the categorization of tax breaks into deserving and undeserving types, and pose a “modified HE” requirement which legitimizes the former. Deserving breaks result in a loss of VE, non-deserving ones in (modified) HI. The equity cost of each tax break can be assessed. For the U.S. personal income tax, modified HI is potentially a lot smaller than classical HI: e.g. the charitable giving tax break alone in 1990 accounted for 44% of classical HI.

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The last 20 years have seen a significant evolution in the literature on horizontal inequity (HI) and have generated two major and “rival” methodological strands, namely, classical HI and reranking. We propose in this paper a class of ethically flexible tools that integrate these two strands. This is achieved using a measure of inequality that merges the well-known Gini coefficient and Atkinson indices, and that allows a decomposition of the total redistributive effect of taxes and transfers into a vertical equity effect and a loss of redistribution due to either classical HI or reranking. An inequality-change approach and a money-metric cost-of-inequality approach are developed. The latter approach makes aggregate classical HI decomposable across groups. As in recent work, equals are identified through a non-parametric estimation of the joint density of gross and net incomes. An illustration using Canadian data from 1981 to 1994 shows a substantial, and increasing, robust erosion of redistribution attributable both to classical HI and to reranking, but does not reveal which of reranking or classical HI is more important since this requires a judgement that is fundamentally normative in nature.

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Ranking groups (schools, regions, counties) according to the average score of their constituent parts – say, ranking schools by the academic achievements of students – is a common yardstick in evaluation and a cornerstone of any planning process. In this paper we show that under certain circumstances the ranking of groups, unlike the ranking of individuals, can be affected by the examiner. The fact that a ranking reversal is possible does not necessarily imply that the test itself is deficient, it merely reveals that the groups are non-homogeneous and therefore, the ranking of groups is meaningless. An investigation of the conditions under which such manipulation can occur leads us to suggest new statistical indicators as warning signals that can help one recognize such situations if and when they arise. It turns out that these indicators are related to the indicators for finding whether one distribution dominates another.

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The distributional impacts of replacing an income tax that has graduated marginal rates by a flat tax are complex. Typically the flat tax rate will be less than the top marginal rate under the pre-existing tax, leading to gains for the wealthiest. On the other hand, real-world proposals generally combine this with increases in personal exemptions that benefit some of the lowest income taxpayers. The result is that flat tax proposals usually redistribute from the middle to the extremes.

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Confronted with rising poverty after an economic crisis in 1995, the Government of Mexico changed its social policy. It terminated universal subsidies for tortilla and funded new investments in human capital through PROGRESA, an innovative program providing school stipends to poor children as well as health and nutrition benefits. After reviewing the main features of PROGRESA, we use the Gini income elasticity to compare the marginal impact of PROGRESA on income inequality with the impact of other social programs. PROGRESA’s impact appears to be larger than the impact of these other programs. The Gini income elasticity for each program is decomposed into two components to measure the targeting performance of each program (i.e. who is participating and who is not), and the impact of the allocation rules for the distribution of the benefits among program participants. Sensitivity analysis is performed with the extended Gini income elasticity. Beyond the impact on inequality of the cash transfers provided by PROGRESA and other programs, we also discuss the programs’ long-term impact on social welfare. Finally, we propose some areas of improvement in the design of PROGRESA and similar programs.

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New measures of the degree of overall income tax progression in the United States are provided for the period 1969 to 1995. Indices of progression from the distributional and tax scale invariant classes of measures are considered. The sensitivity of measures of progression to the income concept used and to equivalence scale adjustments is explored. Recently developed statistical inference procedures are applied to reveal new insights into changes in progressivity across time. Using a microdata based measure of comprehensive income and applying statistical tests are shown to be of crucial importance in reaching conclusions about changes in income tax progression.

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Using decomposable measures of inequality, the implications of household structure are investigated by examining inequality between and within household groups based on the number of exemptions, which correlates with household size, and the filing status, which correlates with the common forms of household structure, i.e. married, single, head of household. Detailed household income data are used to measure income inequality for both pre-tax/transfer and post-tax/transfer definitions of income. These decompositions provide information about the degree of inequality, both before and after taxes and transfers, which is due to household size and filing status. The bootstrap is employed to construct standard errors for the inequality measures and their decompositions, and hypothesis tests are conducted to determine whether the observed changes in the distribution of income are statistically significant.

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The Internal Revenue Code of the U.S. as well as income tax statutes in a number of states contain provisions that penalize some married couples by virtue of their marital status. These families have greater tax liabilities than would apply if the husband and wife divorced. At the same time, other married couples benefit from reduced taxes made possible by the income splitting provisions of the laws. Thus, some families receive tax benefits and others are penalized as a consequence of the choice to be married. There is now much discussion in Washington and state capitals of reducing and possibly eliminating the so-called “marriage tax”. Most proposals for reform retain the income splitting provision of the tax code; thereby avoiding direct harm to families currently receiving tax benefits from marriage. This is the approach adopted in this paper.

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DOI
10.1016/S1049-2585(2003)10
Publication date
Book series
Research on Economic Inequality
Editors
Series copyright holder
Emerald Publishing Limited
ISBN
978-1-84950-212-2
Book series ISSN
1049-2585