Abstract
Several frictions restrict the government's ability to tax assets. First, it is very costly to monitor trades on international asset markets. Second, agents can resort to nonob- servable low-return assets such as cash, gold or foreign currencies if taxes on observable assets become too high. This paper shows that limitations in asset taxation have im- portant consequences for the taxation of labor income. Using a dynamic moral hazard model of social insurance, we find that optimal labor income taxes become less progres- sive when governments face limitations in asset taxation. We evaluate the quantitative effect of imperfect asset taxation for two applications of our model.
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