IMF Working Papers

Macroeconomic and Distributional Effects of Personal Income Tax Reforms: A Heterogenous Agent Model Approach for the U.S

By Sandra V Lizarazo Ruiz, Adrian Peralta Alva, Damien Puy

September 1, 2017

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Sandra V Lizarazo Ruiz, Adrian Peralta Alva, and Damien Puy. Macroeconomic and Distributional Effects of Personal Income Tax Reforms: A Heterogenous Agent Model Approach for the U.S, (USA: International Monetary Fund, 2017) accessed October 13, 2024

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Summary

This paper assesses the macroeconomic and distributional impact of personal income tax (PIT) reforms in the U.S. drawing on a multi-sector heterogenous agents model in which consumers have non-homothetic preferences and sectors differ in terms of their relative labor and skill intensity. The model is calibrated to key characteristics of the US economy. We find that (i) PIT cuts stimulate growth but the supply side effects are never large enough to offset the revenue loss from lower marginal tax rates; (ii) PIT cuts do “trickle-down” the income distribution: tax cuts stimulate demand for non-tradable services which raise the wages and employment prospects of low-skilled workers even if the tax cut is not directly incident on them; (iii) A revenue neutral tax plan that reduces PIT for middle-income groups, raises the consumption tax, and expands the Earned Income Tax Credit can have modestly positive effects on growth while reducing income polarization; (iv) The growth effects from lower income taxes are concentrated in non-tradable service sectors although the increased demand for tradable goods generate positive spillovers to other countries; (v) Tax cuts targeted to higher income groups have a stronger growth impact than tax cuts for middle income households but significantly worsen income polarization, even after taking into account trickle-down effects and an expansion of the Earned Income Tax Credit.

Subject: Consumption, Consumption taxes, Income, Income and capital gains taxes, Labor, National accounts, Personal income tax, Taxes

Keywords: After tax income, After-tax income, Closed economy, Consumption, Consumption tax, Fiscal Policy, Goods share, Income, Income and capital gains taxes, Income Distribution, Income household, Income polarization, Interest rate, Labor intensity, Personal income, Personal income tax, Tax Changes, Tax Multipliers, WP

Publication Details

  • Pages:

    32

  • Volume:

    ---

  • DOI:

    ---

  • Issue:

    ---

  • Series:

    Working Paper No. 2017/192

  • Stock No:

    WPIEA2017192

  • ISBN:

    9781484316580

  • ISSN:

    1018-5941