Optimal human capital policies

Journal of Public Economic Theory, 2013

We study a two-sector economy with investments in human and physical capital and imperfect labor markets. Human and physical capital are heterogeneous. Workers and firms endogenously select the sector they are active in, and choose the amount of their sector-specific investments in human and physical capital. To enter the high-skill sector, workers must pay a fixed cost that we interpret as direct cost of education. Given the distribution of the agents across sectors, at equilibrium, in each sector there is underinvestment in both human and physical capital, due to non-contractibility of investments. A second source of inefficiency is related to the self-selection of the agents into the two sectors. It typically induces too many workers to invest in education. Under suitable restrictions on the parameters, the joint effect of the two distortions is that equilibria are characterized by too many people investing too little effort in the high skill sector. We also analyze the welfare properties of equilibria and study the effects of several tax-subsidy policies on the total expected surplus.

Journal of Public Economic Theory, 2011

This paper explores how the specification of the earnings function impacts the optimal tax treatment of human capital. If education is complementary to labor effort, education should be subsidized to offset tax distortions on labor supply. However, if most of the education is enjoyed by high ability households, education should be taxed in order to redistribute resources to the poor. The paper identifies the exact conditions under which these two effects cancel and education should be neither taxed nor subsidized. In particular, with non-linear tax instruments, education should be weakly separable from labor and ability in the earnings function. With linear taxes, education should also feature a constant elasticity in a weakly separable earnings function.

2018

This paper characterizes optimal capital and labor income taxes in a lifecycle model of human capital investment with heterogeneous agents of continuous types. The key feature of the model is that some private expenses for consumption may be disguised as private expenses for education purposes. The feature leads to positive capital taxes and negative labor taxes in an agent’s early lifecycle. The policy of taxes on capital and subsidies on labor serves as a mechanism to alleviate information-induced distortions to learning, as opposed to education subsidies to offset tax-induced distortions to learning in the existing literature.

In the economic literature a constant tax rate on labor income has usually a neutral or negative effect on education. The effect is neutral in the absence of non-deductible costs and it is negative in the presence of them. A positive effect is obtained in the presence of non-deductible profits or uncertainty in the returns to education. In this model education is treated as a signalling device for the level of human capital and agents choose freely their labor supply under certainty and perfect financial markets. Within this framework a constant tax rate on labor income has a positive effect on education under certainty and in the absence of non-deductible costs or profits as long as consumption and leisure are complementary and the amount of transfers and family income is low enough.

SSRN Electronic Journal, 2012

This paper considers the impact of endogenous human capital accumulation on optimal tax policy in a life cycle model. Including endogenous human capital accumulation, either through learning-by-doing or learning-or-doing, is analytically shown to create a motive for the government to use age-dependent labor income taxes. If the government cannot condition taxes on age, then it is optimal to use a tax on capital in order to mimic such taxes. Quantitatively, introducing learning-by-doing or learning-ordoing increases the optimal tax on capital by forty or four percent, respectively. Overall, the optimal tax on capital is thirty five percent higher in the model with learning-by-doing compared to the model with learning-or-doing implying that how human capital accumulates is of significant importance when determining the optimal tax policy.

2005

This study investigates an aggregative optimal growth model in which short-lived individuals obtain their labour skill through education. The process of human capital formation is described by an increasing, convex-concave education function relating the success rate to the educational expenditure per student. The cost of education is publicly funded by an income tax imposed on adult workers. Despite the apparent regularity and rationality of this idealized economy, it is shown that the existence of the steady state of the model is not guaranteed. In fact, the steady state only exists for carefully chosen social time rates of preference. However, the steady state, if it exists, is unique and in terms of local stability, a saddle point.

International Tax and Public Finance, 2009

This paper analyzes optimal linear and non-linear taxes on capital and labor incomes in a life-cycle model of human capital investment, financial savings, and labor supply with heterogenous individuals. A dual income tax with a positive marginal tax rate on not only labor income but also capital income is optimal. The positive tax on capital income serves to alleviate the distortions of the labor tax on human capital accumulation. The optimal marginal tax rate on capital income is lower than that on labor income if savings are elastic compared to investment in human capital, substitution between verifiable and non-verifiable inputs in human capital formation is difficult, and most investments in human capital are verifiable so that education subsidies can directly reduce the tax wedge on learning. Numerical calculations suggest that the optimal marginal tax rate on capital income is substantial.

2007

Assuming isoelastic returns to education and an endogenous supply of qualified and nonqualified labour, it is shown to be second-best efficient not to distort the choice of education. Furthermore, taxation should set incentives so that qualified labour is substituted for nonqualified labour. As a result, it is efficient to tax labour income regressively with respect to qualification and to tax the monetary cost of education at a level that restores efficiency in education. A tax on capital income alleviates the distortion that progressive taxation of labour income exerts on human-capital investment.

Oxford Economic Papers, 2013

Despite using a variety of models and assumptions, the existing literature has overwhelmingly concluded that education policy should be regressive. In this paper, we examine a two-period model in which the government may impose nonlinear taxes on both labour income and education expenditures. Individuals undertake education in the …rst period to increase their second-period wages. Our main result is that optimal education policy in our model is progressive. Speci…cally, if the government can commit, it is optimal for high-skill individuals to face a zero marginal tax rate on their education expenditures, while that for low-skill individuals is negative. If the government cannot commit, the optimal marginal tax rate on education expenditures by high-skill individuals is positive, while that for low-skill individuals remains negative.

Economic Inquiry, 2008

This paper studies how optimal wage tax conclusions from the classic two-period life cycle model of human capital accumulation are affected by endogenizing the number of taxpaying workers. In the absence of a corrective policy, young individuals underinvest in human capital from a social perspective because tax premiums for transfers to nonworkers are not actuarially adjusted downward for human capital attainment. A combination of wage taxes and wage subsidies can restore proper price signals. Numerical simulations suggest that even modest employment elasticities can be sufficient to substantially impact the magnitudes and even the signs of optimal wage tax rates. (JEL H21, H3, J24)