Taxes and labour supply under interdependent preferences

Woźny, Łukasz and Garbicz, Marek (2005): Taxes and labour supply under interdependent preferences. Published in: Ekonomista No. 1 (January 2006): pp. 53-74.

Abstract

In this paper we identify how changes in the income tax rate affect the labour supply under interdependent utility functions. To reach that aim we create a model of the economy in which households choosing their optimal labour supply take into account not only their income, tax rate and individual consumption but also so called relative consumption level (Garbicz 1997). Taking into account the last issue we significantly modify the well known Becker model (1965). We conduct a comparative statics exercise using na lattice and supermodular game theory. Thanks to which we show sufficient and necessary conditions for a labour supply to be monotonic function of the income tax rate. We analyze the economic behaviour under static and dynamic setup.

Under quite general assumptions concerning the household utility function we show that the higher the tax rate the lower the macroeconomic labour supply. Additionally we show the possibility of multiple equilibria in the economy that offers the explanation of differences in the working time between e.g. European countries and the US as well as discrepancies between micro and macroeconomic elasticity of labour supply (see Alesina, Glaeser, and Sacerdote 2005).

• Item Type: MPRA Paper
• Institution: Warsaw School of Economics, Poland
• Language: English
• Keywords: supermodularity; lattice programming; multiplicity; interdependent preferences; labour supply
• Subjects: D - Microeconomics > D1 - Household Behavior and Family Economics > D11 - Consumer Economics: Theory; J - Labor and Demographic Economics > J2 - Time Allocation, Work Behavior, and Employment Determination and Creation; Human Capital; Retirement > J22 - Time Allocation and Labor Supply

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