Half of the jobs in the United States feature pay for performance. We derive incidence and optimum formulas for the rate of tax progressivity and the top income tax rate when such labor contracts arise from moral hazard frictions within firms. Our first main result is that the sensitivity of the worker’s compensation to performance is roughly invariant to tax progressivity. Second, the optimal tax schedule is strictly less progressive than in standard models that treat pretax earnings risk as exogenous. Quantitatively, the welfare cost of not accounting for performance pay when choosing tax progressivity is 0.3% of consumption.
Paweł is a Lecturer in Economics at the University of Bristol. He is broadly interested in public finance. His recent research concerns optimal taxation of performance bonuses and income redistribution in economies with an informal sector.
Opublikowane | Published
Redistribution with performance pay | Journal of Political Economy - Macroeconomics Przeczytaj streszczenie | Read abstract
W toku | Work in progress
Incentive separability Przeczytaj streszczenie | Read abstract
We consider a general mechanism-design environment in which the planner faces incentive constraints such as the ones resulting from agents' private information or ability to take hidden actions. We study the properties of optimal mechanisms when some decisions are incentive-separable: A set of decisions is incentive-separable if, starting at some initial allocation, perturbing these decisions along agents' indifference curves preserves incentive constraints. We show that, under regularity conditions, the optimal mechanism allows agents to make unrestricted choices over incentive-separable decisions, given some prices and budgets. Using this result, we extend and unify the Atkinson-Stiglitz theorem on the undesirability of differentiated commodity taxes and the Diamond-Mirrlees production efficiency result. We also demonstrate how the analysis of incentive separability can provide a novel justification for in-kind redistribution programs similar to food stamps.