We impose a horizontal equity restriction on the problem of finding the optimal utilitarian tax mix. The horizontal equity constraint requires that individuals with the same ability have to pay the same amount of taxes regardless of their preferences for leisure. Contrary to normal findings, we find that a good that is complementary to leisure can be encouraged by the tax system, and that a good that normally should be discouraged by the tax system can be subsidized even if the economy is composed of only two private commodities plus leisure. Also, the marginal effective tax rate can be different from zero at the top (of the ability distribution) when the tax mix obeys the horizontal equity constraint.
Related content: Working Paper No. 17
Jordahl, H. & Micheletto, L. (2005). ”Optimal Utilitarian Taxation and Horizontal Equity.” Journal of Public Economic Theory, 7(4), 681-708.