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Microsimulation analysis of optimal income tax reforms. An application to New Zealand

Author

Listed:
  • John Creedy

    (Victoria University of Wellington, New Zealand)

  • Norman Gemmell

    (Victoria University of Wellington, New Zealand)

  • Nicolas Hérault

    (Melbourne Institute of Applied Economic and Social Research, Australia)

  • Penny Mok

    (Ministry of Business, Innovation and Employment, New Zealand)

Abstract

This paper examines the optimal direction of marginal income tax reform in the context of New Zealand, which recently reduced its top marginal income tax rate to one of the lowest in the OECD. A behavioural microsimulation model is used, in which social welfare functions are defined in terms of either money metric utility or net income. The model allows for labour supply responses to tax changes, in which a high degree of population heterogeneity is represented along with all the details of the highly complex income tax and transfer system. The implications of the results for specific combinations of tax rate or threshold changes, that are both revenue neutral and welfare improving, are explored in detail, recognising the role of distributional value judgements in determining an optimal reform.The potential impact of additional income responses is also examined, using the concept of the elasticity of taxable income. Results suggest, under a wide range of parameter values and assumptions, that raising the highest income tax rate and/or threshold, would be part of an optimal reform package.

Suggested Citation

  • John Creedy & Norman Gemmell & Nicolas Hérault & Penny Mok, 2018. "Microsimulation analysis of optimal income tax reforms. An application to New Zealand," Working Papers 468, ECINEQ, Society for the Study of Economic Inequality.
    • Handle: RePEc:inq:inqwps:ecineq2018-468
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    References listed on IDEAS

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    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    Optimal taxation; tax reform; behavioural microsimulation; social welfare function; money metric utility.;
    All these keywords.

    JEL classification:

    • D63 - Microeconomics - - Welfare Economics - - - Equity, Justice, Inequality, and Other Normative Criteria and Measurement
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
    • H31 - Public Economics - - Fiscal Policies and Behavior of Economic Agents - - - Household
    • I31 - Health, Education, and Welfare - - Welfare, Well-Being, and Poverty - - - General Welfare, Well-Being
    • J22 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Time Allocation and Labor Supply

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