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Journal Article

Optimal Savings Taxation when Individuals Have Different CRRA Utility Functions

Alan Krause
Annals of Economics and Statistics
No. 113/114, SPECIAL ISSUE ON THE ECONOMICS OF TAXATION (June 2014), pp. 207-223
Published by: GENES on behalf of ADRES
DOI: 10.15609/annaeconstat2009.113-114.207
Stable URL: http://www.jstor.org/stable/10.15609/annaeconstat2009.113-114.207
Page Count: 17
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Optimal Savings Taxation when Individuals Have Different CRRA Utility Functions
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Abstract

Recent empirical research has found that high-skill individuals tend to be less risk averse than low-skill individuals, which suggests that their respective constant relative risk aversion (CRRA) utility functions have different curvature. This paper examines the effects of this form of preference heterogeneity on the classic question of whether taxing savings is desirable when the government also implements optimal nonlinear income taxation. It is shown that taxing or subsidising savings may be optimal, even if labour is separable from consumption in the utility function. Specifically, if the individuals' discount rate is lower (resp. higher) than the market interest rate, it is optimal to tax (resp. subsidise) savings. If the individuals' discount rate is equal to the market interest rate, zero taxation of savings is optimal. This basic relationship holds under both linear and nonlinear taxation of savings. JEL: H21, H24. / KEY WORDS: Savings Taxation, Nonlinear Income Taxation, Preference Heterogeneity.

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