Professor of Economics, University of Exeter, and Institute for Fiscal Studies The Economics of Taxation is a useful and concise guide to the modern economic theory of taxation. For example, one can make quantitative sensitivity analysis, varying the assumptions underlying one of the maximization approaches. It appears very reasonable and just that taxes should be levied on the basis of the taxable capacity of an individual. The early work in ethics (and mathematics) flowed naturally into that in economics and that in turn gave rise to the work in probability and statistics. Auerbach and King (1983) and McDonald (1983) discuss this prediction in the context of clientele portfolio models like those presented above. Two additional subsidiary goals of tax policy are ease of administration and simplicity, which relate to the practical problem of collecting taxes. The advantage of the benefit theory is the direct correlation between revenue and expenditure in a budget. One pair of concepts has been much used to analyze distortionary effects of taxation of companies and of capital income generally, the marginal effective tax rate (METR) and the average effective tax rate (AETR). Some studies have suggested that risk differences may explain narrow yield spreads, but Chalmers (1998) presents data on tax-exempt bonds that are effectively riskless, because their future payouts have already been funded by the borrower. In the first of these, “The Pure Theory of International Values” (1894), Edgeworth restates the first principles of the subject, both classically and mathematically, and then offers criticism of other writers on the matter. Chapter 10 explores the public choice perspective on distribution that argues there is no need for a social welfare function to resolve the distribution question. For example, because imported products are easier to tax than domestic output, import duties were among the earliest taxes. The ease of administration criterion adopts the tax collectors' point of view. Even this classification by no means covers all the topics; there is a paper detailing the behavior of various species of hymenoptera, based on observations made over 11 years, and a single paper is concerned with matters as widespread as bimetallism, bees, and “the preponderance of one sex in our nurseries and one party in our parliaments.” We also find in the more applied papers contributions to analysis of variance, stochastic models, multivariate analysis, and (multiple) correlation. In the theory of taxation, these are defined as the relative differences in the rates of return before and after tax of a marginal and an average project, respectively. Most countries, if not all, tax companies. Risk is typically measured as total risk, but could be the systematic risk (‘beta’ risk) known from financial economics. Roughly speaking, people choose among localities with high service–high tax, medium service–medium tax, and low service–low tax along a broad spectrum. This implies that the risk neutral party should carry all the risk. Evidence on the ownership of tax-exempt bonds is broadly consistent with tax-based clientele models, although there are some puzzles. The average rate is an average in or across actual projects. The nature of a resource project is typically that companies invest a lot in exploration and development before extraction starts, which is very risky, in particular, because the investment has little or no resale value. A. Realization Income Taxation 1. In 1925, scarcely a year before Edgeworth's death, the Royal Economic Society published a three-volume collection of his writings on political economy (a subject that Edgeworth described in his “The Philosophy of Chance” of 1884 as “an arbitrarily selected fragment of the Calculus of Hedonics”). Uncertainty is a central topic, requiring assumptions about stochastic properties of future variables, like prices and quantities. Generally speaking, achieving greater redistribution requires levying higher tax rates on the “rich” but, as we shall discover, higher tax rates tend to increase inefficiency. Green (1993) emphasizes that fully-taxable investors would not compare the tax-exempt bond rate with that on taxable bonds that yield only interest income, but rather would construct a taxable-bond portfolio of bonds that sell below their par values and therefore generate some capital gains as well as some interest. "Financial economics", also considers investment under "certainty" (Fisher separation theorem, "theory of investment value", Modigliani–Miller theorem) and hence also contributes to corporate finance theory. The analysis is sometimes based on stylized examples, or purely theoretical, or statistical, based on empirical data on the behavior of companies. In The Wealth of Nations (Book V, chapter 2) he set down four general canons: Although they need to be reinterpreted from time to time, these principles retain remarkable relevance. One may, for example, want a tax system that maximizes the (expected present value of) resource tax revenue, perhaps risk adjusted, or the sum of consumers' and producers' surplus, or some weighted sum of these. Hence, public assistance transfers are labeled pareto-optimal redistributions: equity as efficiency. Here, two models adopting the benefit approach are discussed: the Lindahl model and the Bowen model. In his obituary for Edgeworth, Keynes wrote, “[Metretike] is a disappointing volume and not much worth reading (a judgment with which I know that Edgeworth himself concurred).” Although Keynes may have been right in his statement, later work by F. P. Ramsey in the 1920s showed the fecundity of Edgeworth's ideas; however, the simultaneous axiomatization of probability and utility had to wait until L. J. Therefore, the less-developed countries tax businesses simply because they are able to collect taxes on businesses. The fiscal incidence on any one of its citizens is exogenous to each locality. For a long time, the classical taxation theory was of most importance. Three notable papers on economics were published in the 1890s. Edgeworth's early thoughts on probability, prompted by John Venn's The Logic of Chance, were published in his “The Philosophy of Chance” in Mind in 1884. As a result, taxation... Keynesian Taxation Theory. financial theory demonstrates that this distinction may not be tenable in practice, and (c) the U.S. income tax relies on other distinctions that may also be undermined by innovative financial contracts. The most notable extensions have been in the context of many-person economies. The main argument for this procedure is that it gives a lot of information to decision makers, while the argument against is that there is no clear way to arrive at a conclusion based on that information. Cost of Service Theory of Taxation: This theory implies that the Government should tax the citizens according to the cost of service rendered by it. Here Edgeworth presented utilitarian arguments in favor of equality contrasted with an approach using probability and discussed the connection between assumptions of equal frequency and those of equal utility. Such migration has two unfortunate implications. Taxpayers have to be able to comply with the tax laws fairly easily for a tax to be used. The trade-off theory states that the optimal capital structure is a trade-off between interest tax shields and cost of financial distress:.47) Value of firm = Value if all-equity financed + PV(tax shield) - PV(cost of financial distress)The trade-off theory can be summarized graphically. It is often difficult to know precisely what tax-cutters hope to achieve through more tax cuts and what evidence they think supports their claims. Similar tabulations for more recent years confirm this finding. Suppose local government L wants to effect a redistribution from citizens in group A to citizens in group B, but the national government prefers a net redistribution from group B to group A. Dark store theory primarily concerns the property taxation of big-box stores, behemoth department stores, hardware sellers and other outlets often running to 50,000 square feet or more. For example, in considering a random variable X having a normal distribution with, he uses “fluctuation” for twice the variance (our 2σ2), “modulus” for its square root, “precision” for the reciprocal of the modulus, and “weight” for the reciprocal of the fluctuation. Furthermore, the prevailing model of optimal federalism stipulates that all local allocational expenditures be financed according to the benefits-received. National Tax Journal, March 2016, 69 (1), 171–216 Financial TransacTion Taxes in Theory and PracTice Leonard E. Burman, William G. Gale, Sarah Gault, Bryan Kim, Jim Nunns, and Steve Rosenthal We explore issues related to a financial transaction tax (FTT) in the United States. We find here too, in his discussion of prior probabilities, the statement “in general the reasoning does not require the a priori probabilities of the different values to be very nearly equal; it suffices that they should not be very unequal.” Compare the modern Bayesian requirement that a prior probability density (in certain circumstances) should be relatively flat in a region where the likelihood is considerable. Here he makes the important observation, often ignored by modern writers, that there are applications in which “the use of à priori probabilities has no connexion with inverse probability.” Here he also discusses some objections to commonly made assumptions about a priori probability and shows that these are of little practical importance in the theory of errors. At this level, A contributes MJ and B contributes MR (the total cost of supply). For resource projects this is seldom relevant, unless unique input factors must be allocated between competing projects. Unformatted text preview: pediency Theory or Financial Theory: This 2. theory aims at attaining maximum amount of revenue rather on the proper distribution of the burden of taxation. Taxes are based on taxpayers’ ability to pay; there is no quid pro quo. The recent financial and economic crisis resulted in new momentum for this concept of a general FTT, also against the backdrop of the general under-taxation of the financial sector (Cannas et al., 2014). Even in a world without mobility, incompatibilities can arise throughout a federalist system if more than one government redistributes income. There is also work on the method of translation, which, crudely put, is concerned with the finding of probability laws for observations that are not normally distributed but are functions of a normally distributed variable. A clear example of this principle is the preference in less-developed countries for taxing businesses rather than people. taxation.3. Furthermore, the prevailing model of optimal federalism stipulates that all local allocational expenditures be financed according to the benefits-received theory of taxation to avoid any unintended redistributions from their allocational decisions. First, the government that tries to redistribute is totally frustrated. Education General Self-interested taxpayers have a strong incentive to avoid paying taxes, and they can do so if they are able to hide information about themselves from the government's tax collectors. First, the higher the tax rate was set, the larger would be the indirect loss in revenues from the drop in asset values and, therefore, the loss in revenues from the taxation of capital gains. The third paper, “The Pure Theory of Monopoly” (1897), is concerned with the incidence of taxation in a monopolistic regime dealing with competitive individuals. For instance, the timing of tax payments differs a lot between systems. Redistributions occur only among people, and at the instigation of the national government. Taxes and after-tax cash flows are measured as expected present values based on risk-adjusted probability measures. Adam Smith in The Wealth of Nations (1776) wrote: In modern public-finance literature, there have been two main issues: who can pay and who can benefit (Benefit principle). Oates is very clear on the point6: The most attractive solution to this whole (distribution) problem (at a formal level at least) is that suggested in Chapter One: let the central government resolve the distribution problem and allow decentralized levels of government to provide public services that they finance with benefit taxes. Most taxes generate distortions in the market system by forcing suppliers and demanders to face different prices. Alternatively, if the government must use one of two or three specific kinds of taxes to raise revenue, normative tax theory should indicate which of these taxes generates the minimum amount of inefficiency. One might simply ask them. Of course, this sort of game must be ruled out, and the most obvious way is to deny one government the right to redistribution. Richard W. Tresch, in Public Finance (Third Edition), 2015. In resource taxation an overriding concern is about the effects of uncertainty. METR is sometimes determined solely on the basis of a theoretical description of the tax system. Copyright © 2021 Elsevier B.V. or its licensors or contributors. It is concerned with taxation, borrowing and aid. The starting point is the value of the all-equity financed firm illustrated by the black horizontal line in Figure 10. Not only are its poor not made significantly better off, but the total tax base of the community has declined and it becomes more difficult to maintain per capita levels of public services. The simplest example is that both parties maximize PDVs, but with different discount rates. Green and Odegaard (1997) present evidence of clientele formation in the market for US Treasury bonds. the ultimate tax burden of a company with debt in its capital structure is lower than a company with zero or lower debt. Tax Structure – The basic tax formula for all taxable entities is fairly similar. It might be because these are illiquid securities that they never chose to purchase, but instead received as an inheritance. The Government renders certain services to citizens and the cost of such services should be collectively met by the citizens The tax, an individual should bear, must be equal to the cost of benefit be receives. This article, a summary not only of Edgeworth's original work but also of that of other statisticians, covers topics such as the probability of causes and future effects, the measurability of credibility, the binomial distribution, the rule of succession, Buffon's needle problem, the normal law of error and other laws, regression, and correlation. Edgeworth's first contribution to political economy, Mathematical Psychics: An Essay on the Application of Mathematics to the Moral Sciences, was published in 1881. 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