09.11.2022 Pavel Doligalski (Bristol)

Topic: “Redistribution with Performance Pay”


Half of the jobs in the U.S. feature pay-for-performance. We derive novel incidence and optimum formulas for the overall rate of tax progressivity and the top tax rates when such labor contracts arise from moral hazard frictions within firms. Optimal taxes account for the fiscal externalities and welfare consequences of two distinct forces: a direct crowding-out of private insurance and a countervailing crowding-in due to endogenous labor effort responses. These imply that the amount of pre-tax earnings risk to which the worker is exposed is roughly invariant to tax progressivity, whereas the (adverse) welfare consequences of the crowd-out outweigh those of the crowd-in, leading to lower optimal tax progressivity. Coauthors: A. Ndiaye and N. Werquin