Intertemporal substitution in labour supply and tax revenue use

Abstract

This article examines the response of work effort to changes in wage and/or tax rates when (1) no part of the taxes returns back to taxpaying workers, but when a part goes back (2) through the provision of a pure public good or (3) through transfer payments. The work-effort ratio is found to be higher in a Leviathan state, but the comparison between the two other tax-use regimes is uncertain. The response of the effort ratio to a change in the wage ratio follows the same pattern, while this response is weakened by a change in the current tax rate and strengthened by a change in the future tax rate, regardless not only of the use of tax revenue, but also of its change over time. In the case of change, the comparison of effort ratios is clear only when the change prompts them to move in the same direction. Corollaries related to tax evasion point to the irrelevance of tax benefits for labour supply decisions.