A GENERAL MODEL OF THE BEHAVIORAL RESPONSE TO TAXATION: Proportional Labor Income Taxation 3

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When CJ2 < 0, increased avoidance raises the avoidance-facilitating value of labor supply, and thus makes it more attractive. The reverse holds true as well—increased labor supply, by lowering the marginal cost of avoidance, makes avoidance more attractive. As Cj2 rises in absolute value, the compensated decline in labor supply that would otherwise occur when t increases is somewhat mitigated because the increased avoidance that accompanies the higher tax rate increases the avoidance-facilitating value of labor supply. A higher absolute value of С increases the positive effect on labor supply of a wage rate increase, because any labor supply increase that occurs also increases the attractiveness of avoidance; as above, increased avoidance increases the avoidance-facilitating value of labor supply. Thus, to the extent that C(2 < 0, a (compensated) increase in w will be more effective at increasing labor supply than an equal percentage (compensated) increase in (1 -1): an increase in pre-tax wage rates is more effective at increasing labor supply than a concomitant decline in the marginal tax rate. The latter will decrease avoidance and reduce the avoidance-facilitating value of labor income.
Introducing interaction in the avoidance technology (i.e., making С < 0) reduces the dA value of —, because to the extent that t also reduces labor supply, this increases the marginal dt cost of avoidance and makes it less attractive.6 Other than the income effect, the wage rate affects avoidance only if there is interaction in the avoidance technology (C * 0). The larger is the absolute value of С , the larger is the positive wage rate effect, as more work decreases the marginal cost of avoidance. debt