The Tax Unit and Household Production Comment

Abstract

In a recent paper published in this Journal, Piggott and Whalley (1996) challenge the conventional wisdom that ‘‘taxing individuals rather than households is preferred from an efficiency point of view’’ (p. 398). They argue ‘‘that once household production is taken into account, things are more complicated since tax design should also not distort the input of family members’ time in household production.’’ They support their view by providing computational results. These results seem to demonstrate that welfare can indeed be enhanced if households are taxed as a unit and not as individuals. This comment sets out to show, however, that their analysis contains some quite critical points. In our opinion, if Piggott and Whalley’s approach is followed through to its end, it only enforces the conventional view. Piggott and Whalley work with an extended family labor supply model. The extension concerns household production expressed by some function N. There are two model variants with different degrees of complexity. In the first variant a representative household is considered and producer prices are held constant. The model serves to demonstrate Piggott and Whalley’s basic line of argumentation within a simple framework. The second variant extends the first one in several respects. Its functional specification is more complex, and it is a general equilibrium model with two household types. The model is parameterized using Australian tax rates and data. It is shown that aggregate welfare gains can occur under well-designed income tax reforms. The reforms are such that the individual tax base is replaced with a household tax base. Additionally, average and marginal tax rates are proportionally adjusted to preserve revenue