Department of Economics and Business Economics

Optimal Taxation with On-the-Job Search

Research output: Working paperResearch


  • wp17_13

    Final published version, 1.05 MB, PDF document

  • Jesper Bagger, Royal Holloway College, United Kingdom
  • Espen R. Moen, BI Norwegian Business School, Norway
  • Rune Majlund Vejlin
We study the optimal taxation of labor income in the presence of search frictions. Heterogeneous workers undertake costly search off- and on-the-job in order to locate more productive jobs that pay higher wages. More productive workers search harder, resulting in equilibrium sorting where low-type workers are overrepresented in low-wage jobs while high-type workers are overrepresented in high-wage jobs. Absent taxes, worker search effort is efficient, because the social and private gains from search coincide. The optimal tax system balance efficiency and equity concerns at the margin. Equity concerns make it desirable to levy low taxes on (or indeed, subsidize) low-wage jobs including unemployment, and levy high taxes on high-wage jobs. Efficiency concerns limit how much taxes an optimal tax system levy on high-paid jobs, as high taxes distort the workers' incentives to search. The model is simulated for reasonable parameter values. The model is also extended to allow for amenities that are unobservable to the tax authorities and therefore cannot be taxed. Ultimately, we want to estimate the model using a Danish matched employer-employee data set.
Original languageEnglish
Place of publicationAarhus
PublisherInstitut for Økonomi, Aarhus Universitet
Number of pages30
Publication statusPublished - 29 Dec 2017
SeriesEconomics Working Papers

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