Peter Birch Sørensen

From the global income tax to the dual income tax: Recent tax reforms in the Nordic countries

The paper discusses the recent drive toward a system of dual income taxation (DIT) in the Nordic countries. The pure version of this system combines progressive taxation of labor and transfer incomes with a proportional tax on income from capital at a level equal to the corporate income tax rate. The paper considers the motives for the introduction of this new income tax system, ranging from abstract theoretical arguments to very pragmatic considerations. While the Nordic DIT system violates the principles of the conventional personal income tax, it is argued that it may in fact be more in line with the philosophy of a true Haig-Simons comprehensive income tax. It is also suggested that the DIT system may cause fewer distortions to resource allocation than the conventional income tax. On the debit side, the paper points out several practical problems of taxing income from small enterprises under the differentiated income tax.

On the optimality of the Nordic system of dual income taxation

Abstract In recent years the Nordic countries have introduced a so-called dual income tax which combines a proportional tax on capital income with progressive taxation of labour income. The paper argues that this asymmetric treatment of the two types of income can be defended on pure efficiency grounds, because the progressivity of the labour income tax serves to reduce the private return to human capital investment, thereby offsetting the tendency of a proportional comprehensive income tax to discriminate in favour of such investment. The analysis is based on an overlapping generations model of a small open economy where consumers face a trade-off between investment in human capital and investment in non-human capital. Extended versions of the model allow for liquidity constraints and an endogenous labour-leisure choice.

The Case for International Tax Co-ordination Reconsidered

In a world of high capital mobility, governments may be tempted to undercut each others capital income taxes to attract capital from abroad. Since such tax competition may have detrimental effects for all countries, European policy makers have debated the introduction of a minimum capital income tax rate within the EU. This paper develops an applied general equilibrium model to estimate the effects of such tax co-ordination on resource allocation, income distribution and social welfare. The model allows for the concern of policy makers that a rise in capital taxes within the EU may cause a capital flight out of Europe. Capital flight will indeed reduce the welfare gain from tax co-ordination within Western Europe, but a positive net gain will remain, although it is likely to be well below 1% of GDP. The gain from co-ordination will be unevenly distributed across European countries, due to differences in economic structures and in the social preference for redistribution. Moreover, even if the median voter?s gain from tax co-ordination may be small, the gains for the poorer sections of society may be quite large.

COMPANY TAX REFORM IN THE EUROPEAN UNION

The European Commission recently proposed to move towards a consolidated tax base for European multinational companies, to be allocated across EU member states through a system of formula apportionment. This paper argues that while the Commissions blueprints for company tax reform may reduce existing problems of transfer pricing, they will also create new distortions as long as existing tax rate differentials are maintained. The paper also investigates the changes in international tax spillovers which will occur as a result of a switch from the current system of separate accounting to formula apportionment. The final part of the paper discusses whether more conventional corporate tax harmonization should still be a long term policy goal for the EU and presents quantitative estimates of the efficiency gains from harmonization.

International tax coordination: regionalism versus globalism

Tax competition for mobile capital can undermine the attempts of governments to redistribute income from rich to poor. I study whether international tax coordination can alleviate this problem, using a general equilibrium model synthesizing recent contributions to the tax competition literature. The model highlights the crucial distinction between global tax coordination and regional coordination. With high capital mobility between the tax union and the rest of the world, the welfare gain from regional capital income tax coordination is only a small fraction of the gain from global coordination, even if the tax union is large relative to the world economy.

Optimal tax progressivity in imperfect labour markets

All modern labor market theories capable of explaining involuntary unemployment as an equilibrium phenomenon imply that increased income tax progressivity reduces unemployment, but they also imply that higher progressivity tends to reduce work effort and labor productivity. This suggests that there may be an optimal degree of tax progressivity where the marginal welfare gain from reduced involuntary unemployment is just offset by the marginal welfare loss from lower productivity. This papers sets up three different simulation models of an imperfect labor market in order to identify the degree of tax progressivity which would maximize the welfare of the representative wage earner. The simulations suggest that the optimal degree of tax progressivity could be substantial and that the welfare gains from tax progressivity could be quite large, although the results are sensitive to the generosity of unemployment benefits and to the after-tax wage elasticity of work effort.

Environmental policy, pollution, unemployment, and endogenous growth

The paper develops a model of endogenous economic growth with pollution externalities and a labor market distorted by union monopoly power and by taxes and transfers. We study the optimal second-best pollution tax and abatement policy and find that a shift toward greener preferences will tend to reduce unemployment, although it will hamper growth. We also find that greater labor-market distortions call for higher pollution tax rates. Finally, we show that a switch from quantity control of pollution combined with grandfathering of pollution rights to regulation via emission charges has the potential to raise employment, growth, and welfere without damaging the environment.

Tax policy in the Nordic countries

List of Tables - List of Illustrations - Preface P.B.Sorensen - Acknowledgements - Notes on the Contributors - Recent Innovations in Nordic Tax Policy: From the Global Income Tax to the Dual Income Tax P.B.Sorensen - Taxation of Income From Small Businesses: Taxation Principles and Tax Reforms in the Nordic Countries K.P.Hagen & P.B.Sorensen - Corporate Tax Policy in the Nordic Countries K.Andersson, V.Kanniainen, J.Sodersten & P.B.Sorensen - Financing the Nordic Welfare States in an Integrating Europe K.P.Hagen, E.Norrman & P.B.Sorensen - Nordic Tax Policy Towards the Year 2000 and Beyond P.B.Sorensen - Index

Capital income taxation in a growing open economy

The paper studies the dynamic macroeconomic effects of various forms of capital income taxation in a model of a small open economy with perfect mobility of financial capital and intertemporal optimization on the part of households and firms. One of the noteworthy results is that the introduction of a (low) corporate income tax will not affect consumption in the long run, but will simply lead to a replacement of shares by foreign financial assets in household portfolios. It is also found that an anticipated investment tax credit can have and that an anticipated dividend tax will have contractionary effects on investment before they are introduced. Moreover, it is shown that while an unanticipated dividend tax is neutral with respect to investment, it will have real effects on consumption and net foreign assets in a growing economy.

Dual Income Taxation: Why and How?

The dual income tax combines a progressive tax schedule for labour income with a low flat tax rate on capital income and corporate income. This paper restates the case for the dual income tax and discusses alternative methods of taxing business income under such a tax system, paying special attention to the taxation of income from closely held corporations. It is argued that the imputed normal return to shares in unlisted companies should be taxed as capital income, while above-normal returns should be subject to labour income tax. The paper demonstrates that such a tax scheme can be designed to be neutral towards the firm’s investment and financing decisions and towards the decisions of shareholders to realize their shares.