Shall We Keep Highly Skilled at Home? The Optimal Income Tax Perspective

We examine how allowing individuals to emigrate to pay lower taxes abroad changes the optimal non-linear income tax scheme in a Mirrleesian economy. An individual emigrates if his domestic utility is less than his utility abroad net of migration costs, utilities and costs both depending on productivity. Three average social criteria are distinguished – national, citizen and resident – according to the agents whose welfare matters. A curse of the middle-skilled occurs in the first-best and it may be optimal to let some highly skilled leave the country under the resident criterion. In the second-best, we provide an extension of Saez’s formula for the optimal marginal tax rates. The middle-skilled can support the highest average tax rates and the marginal tax rates can be negative. Preventing emigration of the highly skilled is not necessarily optimal under the citizen and resident criteria.