Choice of tax base under uncertainty: Consumption or income?

Abstract

This paper compares the efficiency of alternative tax bases in the context of a two-period life-cycle model. Should the objective of tax policy be to encourage social risk-taking, savings, or to maximize welfare, the consumption tax is a clear front runner. This tax also leads to greater expected revenue than an equal expected utility income tax. Further, equal utility (or revenue) rates of consumption tax are practically independent of the degree of risk-aversion, and revenue fluctuations between alternative states of nature turn out to be small.