Are Consumption Taxes Really Better Than Income Taxes?
(joint with Per Krusell and José-Víctor Ríos-Rull)

We use political-equilibrium theory and the neoclassical growth model to compare the quantitative properties of different tax systems.  We first explore whether societies which can only use consumption taxes fare better than societies which can only use income taxes. We find that if government outlays are used for redistribution through transfers, then the answer is no, contradicting conventional wisdom in public finance. The reason for this is that when taxes are endogenous, and voted on by a selfish constituency, the distortionary effects of taxation are taken into account in choosing the level of taxation. Hence, political equilibria have the property that taxes which are relatively distortionary will be relatively low. These results may be overturned if the government outlays are used only for the providing of public goods; then, less distortionary taxes often give better outcomes. We also investigate the properties of a tax system in which both consumption and income taxes are used and voted on simultaneously. Since the ability to use more tax instruments allows redistribution with less distortions, the total amount of transfers tends to be higher here than in one-tax systems.  Typically, tax systems are self-perpetuating in the sense that a change of tax systems results in a reduction in the welfare of the median voter.