Econometrica

Journal Of The Econometric Society

An International Society for the Advancement of Economic
Theory in its Relation to Statistics and Mathematics

Edited by: Guido W. Imbens • Print ISSN: 0012-9682 • Online ISSN: 1468-0262

Econometrica: May, 2023, Volume 91, Issue 3

Pareto-improving tax reforms and the Earned Income Tax Credit

https://doi.org/10.3982/ECTA18600
p. 1077-1103

Felix J. Bierbrauer, Pierre C. Boyer, Emanuel Hansen

We develop a new approach for the identification of Pareto‐improving tax reforms. This approach yields necessary and sufficient conditions for the existence of Pareto‐improving reform directions. A main insight is that “Two brackets are enough”: When the system cannot be improved by altering tax rates in one or two income brackets, then there is no continuous reform direction that is Pareto‐improving. We also show how to check whether a given tax reform is Pareto‐improving. We use these tools to study the introduction of the Earned Income Tax Credit (EITC) in the United States in 1975. A robust finding is that, prior to the EITC, the U.S. tax‐transfer system was not Pareto‐efficient. Under plausible assumptions about behavioral responses, the 1975 reform was not Pareto‐improving. Qualitatively, though, it had the right properties: A similar reform with earnings subsidies made available to a broader range of incomes would have been Pareto‐improving.


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Supplement to "Pareto-improving tax reforms and the Earned Income Tax Credit"

Felix J. Bierbrauer, Pierre C. Boyer, and Emanuel Hansen

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Supplement to "Pareto-improving tax reforms and the Earned Income Tax Credit"

Felix J. Bierbrauer, Pierre C. Boyer, and Emanuel Hansen

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