Public Finance and Public Policy - GBVPublic Finance and Public Policy FOURTH EDITION s Jonathan...

Public Finance and Public Policy FOURTH EDITION

s

Jonathan Gruber Massachusetts Institute of Technology

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WORTH PUBLISHERS A Macmillan Higher Education Company

Contents

Contents

Preface.. XXVll

VII

P A R T I

Introduction and Background CHAPTER 1 Why Study Public Finance?

1.1 The Four Questions of Public Finance

1

3 When Should the Government Intervene in the Economy? 3

Application: The Measles Epidemic of 1989-1991 5 How Might the Government Intervene? 7 What Are the Effects of Alternative Interventions? 8

Application: The CBO: Government Scorekeepers 9 Why Do Governments Do What They Do? 9

1.2 Why Study Public Finance? Facts on Government in the United States and Around the World 10

The Size and Growth of Government 10 Decentralization 12 Spending, Taxes, Deficits, and Debts 13 Distribution of Spending 16 Distribution of Revenue Sources 17 Regulatory Role of the Government 19

1.3 Why Study Public Finance Now? Policy Debates over Social Security, Health Care, and Education 20

Social Security 20 Health Care 21 Education 21

1.4 Conclusion 22

Highlights > 22

Questions and Problems 23

Advanced Questions 24

vii

CHAPTER 2 Theoretical Tools of Public Finance 25

2.1 Constrained Utility Maximization 26

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Preferences and Indifference Curves 27 Utility Mapping of Preferences 29 Budget Constraints 31 Putting It All Together: Constrained Choice 33 The Effects of Price Changes: Substitution and Income Effects 35

2.2 Putting the Tools to Work: TANF and Labor Supply Among Single Mothers 37

Identifying the Budget Constraint 38 The Effect of TANF on the Budget Constraint 39

2.3 Equilibrium and Social Welfare 43 Demand Curves 44 .Supply Curves 46 Equilibrium 48 Social Efficiency 49 Competitive Equilibrium Maximizes Social Efficiency 50 From Social Efficiency to Social Welfare: The Role of Equity 52 (

Choosing an Equity Criterion 54

2.4 Welfare Implications of Benefit Reductions:

The TANF Example Continued 55

2.5 Conclusion 57

Highlights 57



APPENDIX TO CHAPTER 2 The Mathematics of Utility Maximization ... 60

3.1 The Important Distinction Between Correlation and Causality.... 64

The Problem 65

CHAPTER 3 Empirical Tools of Public Finance 63

to Have: Randomized Trials Randomized Trials as a Solution 67 The Problem of Bias 67 Randomized Trials of ERT 69

3.2 Measuring Causation with Data We'd Like 66

Randomized Trials in the TANF Context 69 Why We Need to Go Beyond Randomized Trials 70

3.3 Estimating Causation with Data We Actually Get: Observational Data 71

Time Series Analysis 71 Cross-Sectional Regression Analysis 74 Quasi-Experiments 79 Structural Modeling 82

3.4 Conclusion 84

Highlights 84



APPENDIX TO CHAPTER 3 Cross-Sectional Regression Analysis 87

CHAPTER 4 Budget Analysis and Deficit Financing 91

4.1 Government Budgeting 93 The Budget Deficit in Recent Years 93 The Budget Process 94

Application: Efforts to Control the Deficit 96 Budget Policies and Deficits at the State Level 98

4.2 Measuring the Budgetary Position of the Government: Alternative Approaches 98

Real vs. Nominal 98 Economic Conditions 100 Cash vs. Capital Accounting 100 / Static vs. Dynamic Scoring 102

4.3 Do Current Debts and Deficits Mean Anything? A Long-Run Perspective 103

Background: Present Discounted Value 104 Why Current Labels May Be Meaningless 104 Alternative Measures of Long-Run Government Budgets 105 What Does the U.S. Government Do? 109

Application: The Financial Shenanigans of 2001 112

4.4 Why Do We Care About the Government's Fiscal Position? 113 Short-Run vs. Long-Run Effects of the Government on the Macroeconomy 113 Background: Savings and Economic Growth 114

The Federal Budget, Interest Rates, and Economic Growth 115 Intergenerational Equity 118

4.5 Conclusion 118

Highlights 119

Questions and Problems s 119


P A R T I I

Externalities and Public Goods CHAPTER 5 Externalities: Problems and Solutions 121

5.1 Externality Theory 123 Economics of Negative Production Externalities 123 Negative Consumption Externalities 126 !

Application: The Externality of SUVs 127 Positive Externalities 128

5.2 Private-Sector Solutions to Negative Externalities 130 The Solution 130 The Problems with Coasian Solutions 132

5.3 Public-Sector Remedies for Externalities 134 Corrective Taxation 134 Subsidies 135 Regulation 137

5.4 Distinctions Between Price and Quantity Approaches to Addressing Externalities 137

Basic Model 138 Price Regulation (Taxes) vs. Quantity Regulation in This Model 139 Multiple Plants with Different Reduction Costs 140 Uncertainty About Costs of Reduction 143

5.5 Conclusion 146 \

Highlights 146



CHAPTER 6 Externalities in Action: Environmental and Health Externalities 149

6.1 Acid Rain 150 The Damage of Acid Rain 151

Empirical Evidence: Estimating the Adverse Health Effects of Particulates 152 History of Acid Rain Regulation 152 Has the CAA Been a Success? 155

6.2 Global Warming 155 Application: The Montreal Protocol 158

The Kyoto Treaty 158 Can Trading Make Kyoto More Cost-Effective? 159 What Does the Future Hold? 162

Application: Congress Takes on Global Warming 163

6.3 The Economics of Smoking 165 The Externalities of Smoking 167 Should We Care Only About Externalities, or Do "Internalities" Matter Also? 171

6.4 The Economics of Other Addictive Behaviors 174

Drinking 174 Illicit Drugs 175

Empirical Evidence: The Effect of Legal Drinking at Age 21 176 Application: Public Policy Toward Obesity 178

Summary 180

6.5 Conclusion 181

Highlights 181

Questions and Problems 181 /

Advanced Questions / 182

CHAPTER 7 Public Goods 183

7.1 Optimal Provision of Public Goods 184 Optimal Provision of Private Goods 185 Optimal Provision of Public Goods 187

i 7.2 Private Provision of Public Goods 189

Private-Sector Underprovision 189 Application: The Free Rider Problem in Practice 191

Can Private Providers Overcome the Free Rider Problem? 192 Application: Business Improvement Districts 192

When Is Private Provision Likely to Overcome the Free Rider Problem? 194

7.3 Public Provision of Public Goods 196

Private Responses to Public Provision: The Problem of Crowd-Out 197 Measuring the Costs and Benefits of Pubjic Goods 199 How Can We Measure Preferences for the Public Good? 199

Empirical Evidence: Measuring Crowd-Out 200

7.4 Conclusion 201

Highlights 202



APPENDIX TO CHAPTER 7 The Mathematics of Public Goods Provision 204

CHAPTER 8 Cost-Benefit Analysis 207

8.1 Measuring the Costs of Public Projects 208 The Example 209 Measuring Current Costs 209 j

8.2 Measuring the Benefits of Public Projects 212 Valuing Driving Time Saved 213

Application: The Problems of Contingent Valuation 214 Empirical Evidence: Valuing Time Savings 216

Valuing Saved Lives 216 \ Application: Valuing Life 217

Discounting Future Benefits 222 Cost-Effectiveness Analysis 222

8.3 Putting It All Together 223 Other Issues in Cost-Benefit Analysis 223

8.4 Conclusion 225

Highlights 225



CHAPTER 9 Political Economy 229

9.1 Unanimous Consent on Public Goods Levels 231 Lindahl Pricing 231 Problems with Lindahl Pricing 233

9.2 Mechanisms for Aggregating Individual Preferences 234

Application: Direct Democracy in the United States 234 Majority Voting: When It Works 235 Majority Voting: When It Doesn't Work 237 Arrow's Impossibility Theorem 238 Restricting Preferences to Solve the Impossibility Problem 239 Median Voter Theory 241 The Potential Inefficiency of the Median Voter Outcome 241 Summary 242

9.3 Representative Democracy 242 Vote-Maximizing Politicians Represent the Median Voter 243 Assumptions of the Median Voter Model 244 Lobbying 246

Application: Farm Policy in the United States 247 Evidence on the Median Voter Model for Representative Democracy 249

Empirical Evidence: Testing the Median Voter Model 250

9.4 Public Choice Theory: The Foundations of Government Failure 251

Size-Maximizing Bureaucracy 251 Problems with Privatization 252

Application: Contracting Out with Noncompetitive Bidding 253 Leviathan Theory 255 Corruption 256

Application: Government Corruption 256 The Implications of Government Failure 259

9.S Conclusion 259 Empirical Evidence: Government Failures and Economic Growth 260

Highlights 261

Questions and Problems 261 /


CHAPTER 10 State and Local Government Expenditures 263

10.1 Fiscal Federalism in the United States and Abroad 265 Spending and Revenue of State and Local Governments 266 Fiscal Federalism Abroad 268

10.2 Optimal Fiscal Federalism 269 The Tiebout Model 269 Problems with the Tiebout Model 271

• Evidence on the Tiebout Model 273 Optimal Fiscal Federalism 275

Empirical Evidence: Evidence for Capitalization from California's Proposition 13 276

10.3 Redistribution Across Communities 276 Should We Care? 278 Tools of Redistribution: Grants 279 Redistribution in Action: School Finance Equalization 284

Empirical Evidence: The Flypaper Effect 285 Application: School Finance Equalization and Property Tax Limitations in California 287

10.4 Conclusion 287

Highlights 288



CHAPTER 11 Education (291

11.1 Why Should the Government Be Involved in Education? 294 Productivity 294 Citizenship 295 Credit Market Failures 295 Failure to Maximize Family Utility 295 Redistribution 296

11.2 How Is the Government Involved in Education? 296 Free Public Education and7Crowding Out 297 Solving the Crowd-Out problem: Vouchers 299 Problems with Educational Vouchers 301

11.3 Evidence on Competition in Education Markets 306 Direct Experience with Vouchers 306 Experience with Public School Choice 306

Empirical Evidence: Estimating the Effects of Voucher Programs 307 Experience with Public School Incentives 308 Bottom Line on Vouchers and School Choice 308

11.4 Measuring the Returns to Education 309 Effects of Education Levels on Productivity 309

Empirical Evidence: Estimating the Return to Education 311 Effect of Education Levels on Other Outcomes 312 The Impact of School Quality 312

Empirical Evidence: Estimating the Effects of School Quality 313

11.5 The Role of the Government in Higher Education Current Government Role 314 What Is the Market Failure, and How Should It Be Addressed? 316

313

11.6 Conclusion 317

Highlights 317



l>flRT_III

Social Insurance and Redistribution S

CHAPTER 12 Social Insurance: The New Function of Government 321

12.1 What Is Insurance and Why Do Individuals Value It? 323 What Is Insurance? 323 Why Do Individuals Value Insurance? 324 Formalizing This Intuition: Expected Utility Model 325

12.2 Why Have Social Insurance? Asymmetric Information and Adverse Selection 328

Asymmetric Information 328 Example with Full Information 329 Example with Asymmetric Information 329 The Problem of Adverse Selection 331 Does Asymmetric Information Necessarily Leacl to Market Failure 331

Application: Adverse Selection and Health Insurance "Death Spirals" 333 How Does the Government Address Adverse Selection? 334

12.3 Other Reasons for Government Intervention in Insurance Markets 335

Externalities 335 Administrative Costs 335 Redistribution 335 Paternalism 336

Application: Flood Insurance and the Samaritan's Dilemma 336

12.4 Social Insurance vs. Self-Insurance: How Much Consumption Smoothing? 339

Example: Unemployment Insurance 339 Lessons for Consumption-Smoothing Role of Social Insurance 343

12.5 The Problem with Insurance: Moral Hazard Application: The Problems with Assessing Workers' Compensation Injuries 345

What Determines Moral Hazard? 346 Moral Hazard Is Multidimensional 346 The Consequences of Moral Hazard 347

12.6 Putting It All Together: Optimal Social Insurance

12.7 Conclusion

Highlights

Questions and Problems

Advanced Questions

APPENDIX TO CHAPTER 12 Mathematical Models of Expected Utility....

CHAPTER 13 Social Security •

13.1 What Is Social Security, and How Does It Work? Program Details 357

Application: Why Choose 35 Years? 358 — How Does Social Security Work Over Time? 361

Application: Ida May Fuller 363 How Does Social Security Redistribute in Practice? 364

13.2 Consumption-Smoothing Benefits of Social Security Rationales for Social Security 367 Does Social Security Smooth Consumption? 368 Social Security and Private Savings 368 Living Standards of the Elderly 369

Empirical Evidence:'Measuring the Crowd-Out Effect of Social Security on Savings 370

13.3 Social Security and Retirement Theory 371 Evidence 371

Application: Implicit Social Security Taxes and Retirement Behavior 375 Implications 376

13.4 Social Security Reform \Reform Round I: The Greenspan Commission 378

Application: The Social Security Trust Fund and National Savings 378 Incremental Reforms 379 Fundamental Reforms 382

Application: Company Stock in 401(k) Plans 385 Application: Mixed Proposals for Social Security Reform 386

13.5 Conclusion 387

Highlights 388



CHAPTER 14 Unemployment Insurance, Disability Insurance, and Workers' Compensation 391

14.1 Institutional Features of Unemployment Insurance, Disability Insurance, and Workers' Compensation 393

Institutional Features of Unemployment Insurance 393 Institutional Features of Disability Insurance 395 Institutional Features of Workers' Compensation 396 Comparison of the Features of Ul, Dl, and WC 397

Application: The Duration of Social Insurance Benefits Around the World 398

14.2 Consumption-Smoothing Benefits of Social Insurance Programs . . . 3 9 9

14.3 Moral Hazard Effects of Social Insurance Programs 400

Moral Hazard Effects of Unemployment Insurance 400 Empirical Evidence: Moral Hazard Effects of Unemployment Insurance 402

Evidence for Moral Hazard in Dl 404 Evidence for Moral Hazard in WC 405

Empirical Evidence: Moral Hazard Effects of Disability Insurance 406 Empirical Evidence: Moral Hazard Effects of Workers' Compensation 407

14.4 The Costs and Benefits of Social Insurance to Firms 408 The Effects of Partial Experience Rating in Ul on Layoffs 408 The "Benefits" of Partial Experience Rating 410

Application: The "Cash Cow" of Partial Experience Rating 410 Workers'Compensation and Firms 411 /

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14.5 Implications for Program Reform 412 Benefits Generosity 412 Targeting 412 Experience Rating 413 Worker Self-Insurance? 413

Application: Reforming Ul 413

14.6 Conclusion 414

Highlights 415



APPENDIX TO CHAPTER 14 Advanced Quasi-Experimental Analysis . . . 4 1 7

CHAPTER 15 Health Insurance I: Health Economics and Private Health Insurance 419

15.1 An Overview of Health Care in the United States 421 How Health Insurance Works: The Basics 422 Private Insurance 423 Medicare 427 Medicaid 427 TRICARE/CHAMPVA 428 The Uninsured 428

Empirical Evidence: Health Insurance and Mobility 431

15.2 How Generous Should Insurance Be to Patients? 432 Consumption-Smoothing Benefits of Health Insurance for Patients 432 Moral Hazard Costs of Health Insurance for Patients 433

Application: The Problem with McAllen, Texas 436 'How Elastic Is the Demand for Medical Care? The RAND Health Insurance Experiment 438

Empirical Evidence: Estimating the Elasticity of Demand for Medical Care 440 Optimal Health Insurance 440 Why Is Insurance So Generous in the United States? 441 i

Application: Health Savings Accounts 443

15.3 How Generous Should Insurance Be to Medical Providers? 445

Managed Care and Prospective Reimbursement 446 The Impacts of Managed Care 448 How Should Providers Be Reimbursed? 449

15.4 Conclusion 449 /

Highlights / 449



453

454

What Health Services Does Medicaid Cover? 456 How Do Providers Get Paid? 456

16.2 What Are the Effects of the Medicaid Program? 457 How Does Medicaid Affect Health? A Framework 457 How Does Medicaid Affect Health? Evidence 458

Empirical Evidence: Using State Medicaid Expansions to Estimate Program Effects 460

16.3 The Medicare Program 461 How Medicare Works 462

Application: The Medicare Prescription Drug Debate 463

16.4 What Are the Effects of the Medicare Program? 466 The Prospective Payment System 466 Empirical Evidence: On the Move to the PPS 467 Problems with PPS 467 Lesson: The Difficulty of Partial Reform 469 Medicare Managed Care 469 Should Medicare Move to a Full Choice Plan? Premium Support 472

Application: A Premium Support System for Medicare 472 Gaps in Medicare Coverage 474

16.5 Long-term Care 475 Financing Long-term Care 475

16.6 Health Care Reform in the United States 476 The Historical Impasse 476 The Massachusetts Experiment with Incremental Universalism 478 The Affordable Care Act 480

Application: Rising Health Care Costs and Cost Control Efforts in the ACA 481

16.7 Conclusion /. 485

Highlights 485



CHAPTER 17 Income Distribution and Welfare Programs 489

17.1 Facts on Income Distribution in the United States 491 Relative Income Inequality 491 Absolute Deprivation and Poverty Rates 494

Application: Problems in Poverty Line Measurement 495 What Matters—Relative or Absolute Deprivation? 496

17.2 Welfare Policy in the United States 497 Cash Welfare Programs 497 In-Kind Programs 499

17.3 The Moral Hazard Costs of Welfare Policy 500 Moral Hazard Effects of a Means-Tested Transfer System 501 Solving Moral Hazard by Lowering the Benefit Reduction Rate 504 The "Iron Triangle" of Redistributive Programs 505

17.4 Reducing the Moral Hazard of Welfare 506 Moving to Categorical Welfare Payments 506 Using "Ordeal Mechanisms" 509

Application: An Example of Ordeal Mechanisms 510 Increasing Outside Options 511

Empirical Evidence: The Canadian Self-Sufficiency Project 514

17.5 Welfare Reform 517 •Changes Due to Welfare Reform 517

Empirical Evidence: Estimating the Impact of Welfare Reform 518 Effects of the 1996 Welfare Reform 518

17.6 Conclusion 520 i

Highlights !. 520



P-flRT—I-V i I 1

Taxation in Theory and Practice CHAPTER 18 Taxation in the United States and Around the World 523

18.1 Types of Taxation 524 J| Taxes on Earnings 524 | Taxes on Individual Income 525 I Taxes on Corporate Income 525 i ; Taxes on Wealth 525 i \ Taxes on Consumption 525

Taxation Around the World 525

18.2 Structure of the Individual Income Tax in the United States

Computing the Tax Base 527 527

Tax Rates and Taxes Paid 529 Application: The Coming AMT Timebomb 530

18.3 Measuring the Fairness of Tax Systems 532 Average and Marginal Tax Rates 532 Vertical and Horizontal Equity 533 Measuring Vertical Equity 534

Application: The Political Process of Measuring Tax Fairness 534

18.4 Defining the Income Tax Base 536 The Haig-Simons Comprehensive Income Definition 536 Deviations Due to Ability-to-Pay Considerations 537 Deviations Due to Costs of Earning Income 538

Application: What Are Appropriate Business Deductions? 538

18.5 Externality/Public Goods Rationales for Deviating from Haig-Simons 540

Charitable Giving 54'0 Spending Crowd-Out Versus Tax Subsidy Crowd-In 541 Consumer Sovereignty Versus Imperfect Information 543 Housing 543

Empirical Evidence: The Social Benefits of Homeownership 545 Tax Deductions Versus Tax Credits 546

Application: The Refundability Debate 547 Bottom Line: Tax Expenditures 549

18.6 The Appropriate Unit of Taxation 550 The Problem of the "Marriage Tax" 550 Marriage Taxes in Practice 552

18.7 Conclusion 554

Highlights /. 554 /



CHAPTER 19 The Equity, Implications of Taxation: Tax Incidence 557

19.1 The Three Rules of Tax Incidence 559 The Statutory Burden of a Tax Does Not Describe Who Really Bears the Tax 559 The Side of the Market on Which the Tax Is Imposed Is Irrelevant to the Distribution of the Tax Burdens 561 Parties with Inelastic Supply or Demand Bear Taxes; Parties with Elastic Supply or Demand Avoid Them 564 Reminder: Tax Incidence Is about Prices, Not Quantities 567

19.2 Tax Incidence Extensions 568 Tax Incidence in Factor Markets 568 Tax Incidence in Imperfectly Competitive Markets 571 Balanced Budget Tax Incidence 573

19.3 General Equilibrium Tax Incidence 574 Effects of a Restaurant Tax: A General Equilibrium Example 574 Issues to Consider in General Equilibrium Incidence Analysis 577

19.4 The Incidence of Taxation in the United States 579 Empirical Evidence: The Incidence of Excise Taxation 580

CBO/IPC Incidence Assumptions 580 Results of CBO/TPC Incidence Analysis 581 Current Versus Lifetime Income Incidence 583

19.5 Conclusion 584

Highlights 584


Advanced Questions ). 585

APPENDIX TO CHAPTER 19 The Mathematics of Tax Incidence 587

CHAPTER 20 Tax Inefficiencies and Their Implications for Optimal Taxation . 589

20.1 Taxation and Economic Efficiency 590 Graphical Approach 590 Elasticities Determine Tax'lnefficiency 592

Application: Tax Avoidance in Practice 593 Determinants of Deadweight Loss 594 Deadweight Loss and the Design of Efficient Tax Systems 596

Application: The Deadweight Loss of Taxing Wireless Communications 600

20.2 Optimal Commodity Taxation 601 Ramsey Taxation: The Theory of Optimal Commodity Taxation 601 Inverse Elasticity Rule 602 Equity Implications of the Ramsey Model 603

\ Application: Price Reform in Pakistan 604

20.3 Optimal Income Taxes 607 A Simple Example 607 General Model with Behavioral Effects 608 An Example 610

20.4 Tax-Benefit Linkages and the Financing of Social Insurance Programs 612

The Model 612 Issues Raised by Tax-Benefit Linkage Analysis 614

Empirical Evidence: A Group-Specific Employer Mandate 616

20.5 Conclusion 616

Highlights 617



APPENDIX TO CHAPTER 20 The Mathematics of Optimal Taxation .... 619

CHAPTER 21 Taxes on Labor Supply 623

21.1 Taxation and Labor Supply—Theory 625 Basic Theory 625 Limitations of the Theory. Constraints on Hours Worked and Overtime Pay Rules 627

21.2 Taxation and Labor Supply—Evidence 628 Empirical Evidence: Estimating the Elasticity of Labor Supply 629

Limitations of Existing Studies 630

21.3 Tax Policy to Promote Labor Supply: The Earned Income Tax Credit 631

Background on the EITC 631 Impact of EITC on Labor Supply: Theory 633 Impact of EITC on Labor Supply: Evidence 634

Empirical Evidence: The Effect of the EITC on Single-Mother Labor Supply 636 Summary of the Evidence 637

Application: EITC Reform 637

21.4 The Tax Treatment of Child Care and Its Impact on Labor Supply 639

The Tax Treatment of Child Care 639 Empirical Evidence: The Effect of Child Care Costs on Maternal Labor Supply 640

Options for Resolving Tax Wedges 641 Comparing the Options 642

21.5 Conclusion 643

Highlights 644



CHAPTER 22 Taxes on Savings 647

22.1 Taxation and Savings—Theory and Evidence 649 Traditional Theory 649 Evidence: How Does the After-Tax Interest Rate Affect Savings? 653 Inflation and the Taxation of Savings 654

22.2 Alternative Models of Savings 656 Precautionary Savings Models 656 Self-Control Models 657

Empirical Evidence: Social Insurance and Personal Savings 658

22.3 Tax Incentives for Retirement Savings 659 Available Tax Subsidies for Retirement Savings 659 Why Do Tax Subsidies Raise the Return to Savings? 661 Theoretical Effects of Tax-Subsidized Retirement Savings 662

Application: The Roth IRA 666 .Implications of Alternative Models 668 Private vs. National Savings 669

Empirical Evidence: Estimating the Impact of Tax Incentives for Savings on Savings Behavior 670

Evidence on Tax Incentives and Savings 671 i i

22.4 Conclusion 672

Highlights 673


Advanced Questions \ .. 674

CHAPTER 23 Taxes on Risk Taking and Wealth 675

23.1 Taxation and Risk Taking 677 Basic Financial Investment Model 677 Real-World Complications 678 Evidence on Taxation and Risk Taking 680 Labor Investment Applications 680

23.2 Capital Gains Taxation 681

Current Tax Treatment of Capital Gains 681 What Are the Arguments for Tax Preferences for Capital Gains? 683

' v What Are the Arguments Against Tax Preferences for Capital Gains? 688 Application: Capital Gains Taxation of "Carried Interest" 688

23.3 Transfer Taxation -Why Tax Wealth? Arguments for the Estate Tax 691 Arguments Against the Estate Tax 692

690

23.4 Property Taxation Who Bears the Property Tax? 696 Types of Property Taxation 697

Application: Property Tax Breaks to Businesses 698

695

23.5 Conclusion 700

Highlights 700



CHAPTER 24 Corporate Taxation

24.1 What Are Corporations and Why Do We Tax Them? . . Ownership versus Control 706

Application: Executive Compensation and the Agency Problem 707 Firm Financing 709 , Why Do We Have a Corporate Tax? 710

703

705

24.2 The Structure of the Corporate Tax 711

Revenues 712 Expenses 712

Application: What Is Economic Depreciation? The Case of Personal Computers 713

Corporate Tax Rate 714 Tax Credits 715

24.3 The Incidence of the Corporate Tax 715

24.4 The Consequences of the Corporate Tax for Investment 716

Theoretical Analysis of Corporate Tax and Investment Decisions 716 Negative Effective Tax Rates 721 Policy Implications of the Impact of the Corporate Tax on Investment 722

Application: The Impact of the 1981 and 1986 Tax Reforms on Investment Incentives 722

Evidence on Taxes and Investment 724

24.5 The Consequences of the Corporate Tax for Financing 724

The Impact of Taxes on Financing 724 Why Not All Debt? 726 The Dividend Paradox 728 How Should Dividends Be Taxed? 729

Application: The 2003 Dividend Tax Cut 730 Corporate Tax Integration 731

24.6 Treatment of International Corporate Income 732 How to Tax International Income 732

Application: A Tax Holiday for Foreign Profits 733

24.7 Conclusion 736

Highlights 737



CHAPTER 25 Fundamental Tax Reform 739

25.1 Why Fundamental Tax Reform? 741 Improving Tax Compliance 741

Application: Tax Evasion 741 Application: The 1997 IRS Hearings and Their Fallout for Tax Collection 744

Making the Tax Code Simpler 746 Improving Tax Efficiency 747 Summary: The Benefits of Fundamental Tax Reform 750

25.2 The Poli t ics and Economics of Tax Reform 750 Political Pressures for a Complicated Tax Code 751 Economic Pressures Against Broadening the Tax Base 751

Application: Grandfathering in Virginia 754 j The Conundrum 755

Application: TRA 86 and Tax Shelters 755

25.3 Consumption Taxation 756 Why Might Consumption Make a Better Tax Base? 757 Why Might Consumption Be a Worse Tax Base? 759 Designing a Consumption Tax 762 Backing into Consumption Taxation: Cash-Flow Taxation 765

25.4 The Flat Tax .. 765 |; Advantages of a Flat Tax 766 ! Problems with the Flat Tax 767 !• Application: The 2005 Panel on Tax Reform 768

j- 25.5 Conclusion 769 j'.

\ Highlights 769 I | Questions and Problems 770

j ( Advanced Questions 770

1 Glossary G-l

| References R-l

Index I-l

Public Finance and Public Policy - GBVPublic Finance and Public Policy FOURTH EDITION s Jonathan...

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Transcript of Public Finance and Public Policy - GBVPublic Finance and Public Policy FOURTH EDITION s Jonathan...