Taxation and the distorted allocation of talent

That is a paper from last year by Benjamin B. Lockood, Charles G. Nathanson, and E. Glen Weyl.  The key sentence of the abstract is this:

If higher-paying professions (e.g. finance and management) generate less positive net externalities than lower-paying professions (e.g. public service and education) taxation may enhance efficiency.

In other words, marginal tax rates may be Pigouvian taxes on externality-generating activities.  Note that in this model high elasticities of switching careers, in response to incentives, may motivate progressive taxation rather than militating against it.

The paper does not attempt to derive which are the positive-externality and negative-externality professions, but rather considers some left- and right-wing assumptions about various professions, as well as the views of the authors.

One worry I have about this paper is that it focuses only on the static dimension.  If we believe that investment has higher positive externalities over time than consumption, that militates in favor of leaving resources in the hands of wealthier individuals.

If we consider wage structures within firms, equity norms and stickiness theories predict an excess of wage compression relative to marginal products.  This is what we observe in academia and also scientific research.  High marginal tax rates worsen that problem rather than alleviate it.

Most of all, I think of “fundamental innovation” as the great under-rewarded input.  That doesn’t correspond well to either income levels or descriptions of professions, so maybe those are not the categories this paper should focus upon.  And the number of true innovators may be fairly small, so thinking about typical cases may prove misleading.  If we consult “our feelings” about various professions, we will focus on typical members of that profession and their social contributions, or lack thereof.  An alternative approach is to start by listing the known under-rewarded innovators from the past, noting their distribution in the professions, and then thinking how to reward those professions with the tax system, along the way worrying less about the averages or typical members of those professions.  That path will bring you some very different results, and I think results more favorable to both business and scientific research.

For the pointer to the paper I thank Daniel Frank.


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