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Huixin Bi, Ms. Wenyi Shen, and Susan Yang Shu-Chun
This paper studies the main channels through which interest rate normalization has fiscal implications in the United States. While unexpected inflation reduces the real value of government liabilities, a rising policy rate increases government financing needs because of higher interest payments and lower real bond prices. After an initial decline, the real government debt burden rises even with higher tax revenues in an expansion. Given the current net debt-to-GDP ratio at around 80 percent, interest rate normalization leads to a negligible increase in the sovereign default risk of the U.S. federal government, despite a much higher federal debt-to-GDP ratio than the post-war historical average.
International Monetary Fund
This paper highlights key issues pertinent for the understanding of international effects of domestic tax policies and of international tax harmonization. The analytical framework adopts the saving-investment balance approach to the analysis of international economic interdependence focusing on income, consumption, and international borrowing. A simulation model is developed that is richer in structure than the two period analytical model. The analytical and simulation frameworks are used to analyze the consequences of revenue-neutral conversions between income and consumption (VAT) tax systems, the international effects of budget deficits and public-debt management, and the effects of international tax harmonization. We demonstrate that the effects of such changes in the structure of taxes depend critically on international differences in saving and investment propensities.
Alexandra Fotiou, Ms. Wenyi Shen, and Susan Yang Shu-Chun
Using the post-WWII data of U.S. federal corporate income tax changes, within a Smooth Transition VAR, this paper finds that the output effect of capital income tax cuts is government debt-dependent: it is less expansionary when debt is high than when it is low. To explore the mechanisms that can drive this fiscal state-dependent tax effect, the paper uses a DSGE model with regime-switching fiscal policy and finds that a capital income tax cut is stimulative to the extent that it is unlikely to result in a future fiscal adjustment. As government debt increases to a sufficiently high level, the probability of future fiscal adjustments starts rising, and the expansionary effects of a capital income tax cut can diminish substantially, whether the expected adjustments are through a policy reversal or a consumption tax increase. Also, a capital income tax cut need not always have large revenue feedback effects as suggested in the literature.
Mr. Alexander D Klemm, Ms. Li Liu, Victor Mylonas, and Mr. Philippe Wingender
This paper assesses a possible explanation for the global downward trend in top personal income tax rates over the last decades: globalization and the related tax evasion and avoidance opportunities could have raised elasticities of taxable income, which would imply lower optimal tax rates. The paper estimates elasticities of taxable income for top income earners using a large sample of economies and years with a common method, allowing an analysis of trends in such elasticities. The paper finds that elasticities do not appear to exhibit any clear pattern over the years. The downward trend in tax rates must have other possible explanations, which are briefly discussed.
International Monetary Fund
This paper explores how tax policy affects the level and allocation of national savings in the United States. It argues that the effect of taxes on the overall private saving level is relatively small and uncertain and that raising public saving is the most direct and efficient way to raise national saving. However, the tax system has a powerful impact on the composition of savings and investment. The paper suggests various specific tax measures that would not only raise government revenue but also enhance the efficiency of savings and investment.
Zhiyong An and Mr. David Coady

The benchmark optimal income taxation model of Mirrlees (1971) finds that the optimal marginal income tax rate (MIT) is always non-negative. A key model assumption is the coincidence between social and individual work preferences. This paper extends the model to allow for differences in social and individual work preferences. The theoretical and simulation analyses show that under this model, when the government places a higher social weight on work than individuals, the optimal MIT schedule is shifted downwards, introducing the possibility for optimal wage subsidies at the bottom of the income distribution. This implies lower revenues, demogrants, and overall progressivity.

International Monetary Fund. Fiscal Affairs Dept.

In October 2021, the MEF asked Congress for the delegation of powers to legislate on tax matters with the aim of increasing tax collections and doing so by adding progressivity to the Peruvian tax system. The initiative being developed by the MEF contains (tentatively, to date) around 40 specific measures—some administrative, others related to tax policy—that the MEF hopes will, as a whole, generate additional revenue for the treasury. The tax collection impact of quite a few of the measures (including those pertaining to the mining sector) has not been estimated, whereas the measures for which there is a calculation are estimated to bring in a little over 1 percent of GDP in revenues. Given Peru’s low level of tax collections, both relative to its own historical trends as well as those of other countries in the region, the amount expected to be collected with the proposed reform is modest. However, increasing tax collections by enhancing progressivity would appear to be the right approach.

Mr. Vito Tanzi

In his comment1 on my 1983 paper,2 Acharya lists five problems relating to the use of what he calls the “Tanzi method” in estimating the size of the underground economy, problems that he considers “quite significant.” I fully agree that there are limitations to my approach, and I clearly indicated them in my concluding remarks to the paper:

Laurence J. Kotlikoff

The combination of large budget deficits among industrial countries and exceptionally high short-term real interest rates has rekindled interest in crowding out and its potential effects on saving, capital formation, and financial variables. This paper describes how fiscal policies that result in economic deficits alter an economy’s saving behavior. Depending on the economy’s size and degree of openness, the changes in domestic savings arising from deficit financing can produce major changes in domestic investment, real interest rates, and real wage rates. Even if pretax returns to capital and labor are unaltered by deficits, because of international capital mobility and the equalizing of factor prices through trade, economic deficits can dramatically lower an economy’s long-run welfare. This paper provides a quantitative sense of how burdensome the “burden of the debt” may be.