Cleveland Fed, Report: Optimal Fiscal Reform with Many Taxes

“We have explored the optimal tax-and-transfer policy in an environment with rich household heterogeneity and where the government has many tools for raising tax revenue. The optimal policy places very high tax rates on capital income and on consumption. Labor income taxes feature high top tax rates but also a progressive schedule similar to that currently in the US code. Greater degrees of tax progressivity are welfare reducing because they come at the cost of a lower feasible transfer while providing tax reductions to households that are not among the very poor. When a policy is instead decided by majority voting, the outcome is identical to the social planner’s choice.”