For discussion in VOX, click here.
Taxation, Expenditures and the Irish Miracle (joint with Paul Klein).
Abstract. We examine the role of fiscal policy in accounting for the remarkable rise of Ireland from one of Western Europe’s poorest countries to one of its richest in just a few years. We focus on the importance of business tax reform and changes in the size of government, in conjunction with other factors, which we model as a residual rise in Total Factor Productivity (TFP). We conduct our analysis using a two-sector, small-open economy model where production requires tangible and intangible capital services, and where inflows of capital are limited by a collateral constraint. We find that the much discussed reductions of business taxes played a significant, but secondary, role in the Irish miracle. However, tax reform and other changes strongly reinforce each other. We also find that Ireland’s openness to capital movements was crucial: under the same driving forces, a closed economy would have experienced a much slower and significantly smaller rise in GDP.
This version. March 2018.
Managers and Productivity Differences (joint with Nezih Guner and Andrii Parkhomenko). Forthcoming in Review of Economic Dynamics.
Abstract: We document that for a group of high-income countries the life-cycle earnings growth of managers relative to non managers is positively correlated with output per worker. We interpret this evidence through the lens of an equilibrium life-cycle, span-of-control model where managers invest in their skills. We use the model to quantify the importance of exogenous productivity differences and the size-dependent distortions emphasized in the misallocation literature. Our findings indicate that such distortions are critical to generate the observed differences in the growth of relative managerial earnings across countries. Distortions that halve the growth of relative managerial earnings, a move from the U.S. to Italy in our data, lead to a reduction in managerial quality of 27% and to a reduction in output of about nearly 7% -- more than half of the observed gap between the U.S. and Italy. Cross-country variation in distortions accounts for about 42% of the cross-country variation in output per worker gap with the U.S.
This version: November 2017. Appendix for online publication is here. For discussion in VOX, click here.
Child-Related Transfers, Household Labor Supply and Welfare (joint with Nezih Guner and Remzi Kaygusuz)
Abstract: What are the macroeconomic and welfare effects of expanding transfers to households with children in the United States? How do childcare subsidies compare to alternative policies? We answer these questions in a life-cycle equilibrium model with household labor-supply decisions, skill losses of females associated to non participation, and heterogeneity in terms of fertility, childcare expenditures and access to informal care. We consider the expansion of transfers that are contingent on market work -- childcare subsidies and Child and Dependent Care Tax Credits (CDCTC) -- versus those that are not -- Child Tax Credits (CTC). We find that expansions of transfers of the first group have substantial positive effects on female labor supply, that are largest at the bottom of the skill distribution. Universal childcare subsidies at a 75% rate lead to long-run increases in the participation of married females of 8.8%, while an equivalent expansion of the CTC program leads to the opposite -- a reduction of about 2.4%.We find that welfare gains of newborn households are substantial and up to 2.3% under the CDCTC expansion. The expansion of none of the existing programs, however, receives majority support at the time of its implementation. Our findings show substantial heterogeneity in welfare effects, with a small fraction of households young and poorer households with children who gain significantly while many others lose.
This version: December 2016. NEW VERSION COMING SOON. For a discussion in VOX, click here.
OLD VERSION: Childcare Subsidies and Household Labor Supply
Rethinking the Welfare State (joint with Nezih Guner and Remzi Kaygusuz) -- SLIDES.
Heterogeneity and Government Revenues: Higher Taxes at the Top? (joint with Nezih Guner and Martin Lopez-Daneri). Journal of Monetary Economics, June 2016.
Abstract: How effective is a more progressive tax scheme in raising revenues? We answer this question in a life-cycle economy with heterogeneity across households and endogenous labor supply. Our findings show that a tilt of the U.S. income tax schedule towards high earners leads to small increases in revenue. Maximal revenue in the long run is only 6.8% higher than in our benchmark - about 0.8% of initial GDP - while revenues from all sources increase by just about 0.6%. Our conclusions are that policy recommendations of this sort are misguided if the aim is to exclusively raise government revenue.
For discussion in VOX, click here.
Talent, Labor Quality and Economic Development (joint with B. Ravikumar and German Cubas). Review of Economic Dynamics, July 2016.
Abstract: We develop a theory of labor quality based on (i) the division of the labor force between unskilled and skilled workers and (ii) investments in skilled workers. In our theory, countries differ in two key dimensions: talent and total factor productivity (TFP). We measure talent using the observed achievement levels from the Programme for International Student Assessment (PISA) scores. Our findings imply that the quality of labor in rich countries is about twice as large as the quality in poor countries. Thus, the implied disparities in TFP levels are smaller relative to the standard growth model using a measure of labor quality based on Mincer returns. In our model, the resulting elasticity of output per worker with respect to TFP is about 2.
Income Taxation of U.S. Households: Facts and Parametric Estimates (joint with Nezih Guner and Remzi Kaygusuz). Review of Economic Dynamics, October 2014.
Abstract: We use micro data from the U.S. Internal Revenue Service to document how Federal Income tax liabilities vary with income, marital status and the number of dependents. We report facts on the distributions of average taxes, properties of the joint distributions of taxes paid and income, and discuss how taxes are affected by marital status and the number of children. We also provide multiple parametric estimates of tax functions for use in applied work in macroeconomics and public finance.
Discussion in VOX.
Distortions, Endogenous Managerial Skills and Productivity Differences (joint with Dhritiman Bhattacharya and Nezih Guner). Review of Economic Dynamics, 2013.
Abstract: We develop a span-of-control model where managerial skills are endogenous and the outcome of investments over the life cycle of managers. We calibrate this model to U.S. plant-size data to quantify the effects of distortions that are correlated with the size of production units, and how these effects are amplified by managerial investments. We find a quantitatively important role for managerial investments. Distortions that consist of a tax rate of 20% on the top 50% managers reduce steady-state output by about 14.6% in our benchmark model. When skills are exogenous the reduction is about 9.2%.
Taxation and Household Labor Supply (joint with Nezih Guner and Remzi Kaygusuz). Review of Economic Studies, 2012.
Abstract: We evaluate reforms to the U.S. tax system in a life-cycle setup with heterogeneous married and single households, and with an operative extensive margin in labor supply. We restrict our model with observations on gender and skill premia, labor force participation of married females across skill groups, children, and the structure of marital sorting. We concentrate on two revenue neutral tax reforms: a proportional income tax and a reform in which married individuals file taxes separately (separate filing). Our findings indicate that tax reforms are accompanied by large increases in labor supply that differ across demographic groups, with the bulk of the increase coming from married females. Under a proportional income tax reform, married females account for more than 50% of the changes in hours across steady states, while under separate filing reform, married females account for all the change in hours.
Older version is here.
Taxing Women: A Macroeconomic Analysis (joint with Nezih Guner and Remzi Kaygusuz). Journal of Monetary Economics, 2012.
Abstract: Based on well-known evidence on labor supply elasticities, several authors have concluded that women should be taxed at lower rates than men. In this paper, we evaluate the quantitative implications of this conclusion in a model able to capture key cross-sectional observations for the analysis. We present a life-cycle setup with heterogeneous married and single households, costly childbearing and an operative extensive margin in the labor supply of married females. We find that relative to the current structure of taxation, setting a proportional tax rate on married females equal to 4% (8%) increases output and married female labor force participation by about 3.9% (3.4%) and 6.9% (4.0%), respectively. We also find that gender-based proportional taxes improve welfare and are preferred by a majority of people. Nevertheless, welfare gains are higher when the U.S. tax system is replaced by a proportional, gender-neutral income tax.
Sources of Lifetime Inequality (joint with Mark Huggett and Amir Yaron). American Economic Review, 2011.
Abstract: Is lifetime inequality mainly due to differences across people established early in life or to differences in luck experienced over the working lifetime? We answer this question within a model that features idiosyncratic shocks to human capital, estimated directly from data, as well as heterogeneity in ability to learn, initial human capital, and initial wealth. We find that as of age 23, differences in initial conditions account for more of the variation in lifetime earnings, lifetime wealth and lifetime utility than do differences in shocks received over the working lifetime.
Life-cycle profiles constructed from PSID data are here.
Productivity Differences and the Dynamic Effects of Labor Movements (joint with Paul Klein, Journal of Monetary Economics, 2009)
Abstract: Barriers to labor mobility across countries coexist with substantial differences in living standards largely attributable to productivity differences. A growth model with endogenous labor movements is used to assess the effects on output, capital accumulation and welfare of removing barriers to labor mobility. The model is parameterized so that it is consistent with evidence on historical labor movements, and is applied to two cases: the enlargement of the European Union and the (hypothetical) creation of a common labor market in the North America. The main finding is that there are large resulting gains in terms of output and welfare.
This version: October 2009.
Macroeconomic Implications of Size-Dependent Policies (joint with Nezih Guner and Xu Yi, Review of Economic Dynamics, 2008)
Abstract: Government policies that impose restrictions on the size of large establishments or firms, or promote small ones, are widespread across countries. In this paper, we develop a framework to systematically study policies of this class. We study a simple growth model with an endogenous size distribution of production units. We parameterize this model to account for the size distribution of establishments and for the large share of employment in large establishments. Then, we ask: quantitatively, how costly are policies that distort the size of production units? What is the impact of these policies on productivity measures, the equilibrium number of establishments and their size distribution? We find that these effects are potentially large: policies that reduce the average size of establishments by 20% lead to reductions in output and output per establishment up to 8.1% and 25.6% respectively, as well as large increases in the number of establishments (23.5%).
TFP Differences and the Aggregate Effects of Labor Mobility in the Long Run (joint with Paul Klein, B.E. Journal in Macroeconomics, May 2007)
Abstract: The coexistence of barriers to labor mobility with large output-per-worker disparities driven by Total Factor Productivity (TFP) differences suggests that the world's labor force is misallocated across countries. We investigate the extent and consequences of this potential misallocation in the context of a simple two-location growth model, in which production requires capital, labor and an essential immobile factor (land). We characterize the magnitude of labor movements implied by an efficient long-run allocation in a number of cases, and derive their implications for the aggregate capital stock. Quantitatively, even for small TFP differences, we find substantial increases in world output associated with efficient allocations. These output increases are driven by large movements of labor from low to high TFP countries, as well as by a sizeable increase in the capital stock and changes in its endogenous division across countries. Our results are robust to a large set of parameter values, including unrealistically conservative ones.
How Costly are Restrictions on Size? (joint with Nezih Guner and Xu Yi, Japan and the World Economy, 2006)
We develop a simple framework to address government policies that restrict the size of establishments in a particular sector. The economy we study is a two-sector extension of the span-of-control model of Lucas (1978). In the model, production requires a managerial input, and individuals sort themselves into managers and workers. Since managers are heterogeneous in terms of their ability, establishments of different sizes coexist in equilibrium in each sector. We then study government policies that aim to change the size distribution of establishments in a given sector, such as Japan’s Large Scale Retail Location Law. How costly are these policies? What is their impact on productivity, the number and size distribution of establishments? We find that these effects are potentially large.
Human Capital and Earnings Distribution Dynamics (joint with Mark Huggett and Amir Yaron, Journal of Monetary Economics, March 2006)
Abstract: Earnings heterogeneity plays a crucial role in modern macroeconomics. We document that mean earnings and measures of earnings dispersion and skewness all increase in US data over most of the working life-cycle for a typical cohort as the cohort ages. We show that (i) a human capital model can replicate these properties from the right distribution of initial human capital and learning ability, (ii) differences in learning ability are essential to produce an increase in earnings dispersion over the life cycle and (iii) differences in learning ability account for the bulk of the variation in the present value of earnings across agents. These findings emphasize the need to further understand the role and origins of initial conditions.
( Earlier versions of this paper circulated under the name “Distributional Implications of a Benchmark Human Capital Model”.)
Income Taxation and Marital Decisions (joint with Hector Chade, Review of Economic Dynamics, 8, 2005)
Abstract: Differential tax treatment of married and single people is a key feature of the tax code in the US and other countries. We analyze its equilibrium and welfare effects in a matching model with search frictions and nontransferable utility. We find that an increase in taxes on married people unambiguously reduces the equilibrium number of marriages, but it need not make both men and women more reluctant to marry. We also show that it is optimal to give married couples a preferential tax treatment. A quantitative analysis using US data reveals that relatively large changes in taxes are associated with small changes in the number of marriages and divorces. Finally, we extend the model to allow for cohabitation as an alternative to marriage, and find that the number of marriages becomes more sensitive to increases in the marriage tax penalty. The magnitude of the resulting changes, however, is still moderate.
On Inflation as a Regressive Consumption Tax (joint with Andrés Erosa, Journal of Monetary Economics, May 2002.)
Abstract: Evidence on the portfolio holdings and transaction patterns of households suggests that the burden of inflation is not evenly distributed. We build a monetary growth model consistent with key features of cross-sectional household data and use this framework to study the distributional impact of inflation. At the aggregate level, our model economy behaves similarly to standard monetary growth models within the representative agent abstraction. Inflation has, however, important distributional effects since it is effectively a regressive consumption tax. Thus, neglecting the distributional consequences of inflation may prove misleading in assessing the effects of inflation in our economy.
Taxes and Marriage: A Two-Sided Search Analysis (joint with Hector Chade, International Economic Review, 2002)
Abstract: This paper analyzes the effects of differential tax treatment of married and single individuals in the US on marriage formation and composition, divorce and labor supply. We develop a marriage market model with search frictions and heterogeneous agents that is sufficiently rich to capture key elements of the problem under consideration. We then calibrate the model and use it to evaluate the quantitative effects of several tax reforms aimed at making the tax law neutral with respect to marital status. We find that these reforms (i) systematically increase the labor supply of married females, with changes ranging from 0.3 to 10.1 percent; (ii) have substantial effects on the correlation of spouses' incomes, which changes from 0.2 to values between 0.185 and 0.334; (iii) can lead to either an increase or decrease in the fraction of people married, with changes that range from -0.6 to 2.4 percent.
Understanding Why High Income Households Save More then Low Income Households (joint with Mark Huggett, Journal of Monetary Economics, April 2000.)
Abstract: We use a calibrated life-cycle model to evaluate why high income households save as a group a much higher fraction of income than do low income households in US cross-section data. We find that (1) age and relatively permanent earnings differences across households together with the structure of the US social security system are sufficient to replicate this fact, (2) without social security the model economies still produce large differences in saving rates across income groups and (3) purely temporary earnings shocks of the magnitude estimated in US data alter only slightly the saving rates of high and low income households.
Flat Tax Reform: A Quantitative Exploration (Journal of Economic Dynamics and Control, 23, 1999.)
Abstract: This paper explores quantitatively the general equilibrium implications of a revenue neutral tax reform in which the current income and capital income tax structure in the U.S. is replaced by a flat tax, as proposed by Hall and Rabushka (1995). The central aspects of such reform, the impact of tax reform on capital accumulation and labor supply, as well as its distributional consequences, are analyzed in a dynamic general equilibrium model. Main results are that, i) the elimination of the actual taxation of capital income has an important and positive effect on capital accumulation; ii) mean labor hours are relatively constant across tax systems, but aggregate labor in efficiency units increases; iii) in all circumstances analyzed, he distributions of earnings, income and especially wealth become more concentrated.
On the Distributional Implications of Social Security Reform (joint with Mark Huggett, Review of Economic Dynamics, 1999.)
Abstract: How will the distribution of welfare, consumption and leisure across households be affected by social security reform? This paper addresses this question for social security reforms with a two-tier structure by comparing steady states under a realistic version of the current US system and under the two-tier system. The first tier is a mandatory, defined-contribution pension offering a retirement annuity proportional to the value of taxes paid, whereas the second tier guarantees a minimum retirement income. Our findings, which are summarized in the introduction, do not in general favor the implementation of pay-as-you go versions of the two-tier system for the US economy.
A Model of Experimentation with Informational Externalities (Joint with Rolando Guzmán, Journal of Economic Dynamics and Control, 1998).
Abstract: This paper presents a simple model of experimentation and information externality. Specifically, we analyze an experimentation game in which the consequences of the actions of each agent can be costlessly observed by other agents. Our analysis provides a complete characterization of the non-cooperative equilibrium in stationary strategies. In particular, it shows that such an equilibrium is not efficient, because players stop experimenting when the social value of experimentation is still positive. We also prove, however, a Folk-type result according to which a socially efficient outcome can be sustained as an equilibrium when the players have memory of previous actions and are sufficiently patient. Finally, we indicate a large class of economic problems which provides motivation for our model and to which our approach might be applied.