Nonlinear taxes in a life-cycle consistent model of family labour supply

Abstract

This paper deals with family labour supply under nonlinear income taxation in a life-cycle consistent framework. A major purpose of the paper is, therefore, to bring together previous research on how to model joint supply decisions, life-cycle consistency and piecewise linear taxation, and then perform an econometric application using Swedish cross-section data. The paper starts by constructing an intertemporal model of household behaviour, which is used to derive optimal hours of work for the husband and the wife, respectively. Then, given the appropriate theoretical framework, the model is specified in a way suitable for econometric analysis. Regarding the estimation results, we find that both male and female labour supply are sensitive not only to changes in the own marginal wage rate and the virtual nonlabour income, but also to changes in the marginal wage rate of the spouse. The latter means that cross-wage effects are important when it comes to interpret the consequences of income taxation.