Salience and Taxation: Theory and Evidence / Raj Chetty, Adam Looney, Kory Kroft.

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Chetty, Raj

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Material type: Text

TextSeries: Working Paper Series (National Bureau of Economic Research) ; no. w13330.Publication details: Cambridge, Mass. National Bureau of Economic Research 2007.Description: 1 online resource: illustrations (black and white)Subject(s):

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Abstract: A central assumption in public finance is that individuals optimize fully with respect to the incentives created by tax policies. In this paper, we test this assumption using two empirical strategies. First, we conducted an experiment at a grocery store where we posted tax-inclusive prices for 750 products subject to sales tax for a three week period. Using scanner data, we find that posting tax-inclusive prices reduced demand by roughly 8 percent among the treated products relative to control products and nearby control stores. Second, we find that state-level increases in excise taxes (which are included in posted prices) reduce aggregate alcohol consumption significantly more than increases in sales taxes (which are added at the register and hence less salient). Both sets of results indicate that tax salience affects behavioral responses. We propose a bounded rationality model to explain why salience matters, and show that it matches our evidence as well as several additional stylized facts. In the model, agents incur second-order (small) utility losses from ignoring some taxes, even though these taxes have first-order (large) effects on social welfare and government revenue. Using this theoretical framework, we develop elasticity-based formulas for the efficiency cost and incidence of commodity taxes when agents do not optimize fully. Abstract: A revised version of this paper with new theoretical results may be downloaded here: <a href="http://elsa.berkeley.edu/~chetty/papers/taxsalience_aer.pdf">http://elsa.berkeley.edu/~chetty/papers/taxsalience_aer.pdf</a>

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Item type	Home library	Collection	Call number	Status	Date due	Barcode	Item holds
Working Paper	Biblioteca Digital	Colección NBER	nber w13330 (Browse shelf(Opens below))	Not For Loan

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August 2007.

A central assumption in public finance is that individuals optimize fully with respect to the incentives created by tax policies. In this paper, we test this assumption using two empirical strategies. First, we conducted an experiment at a grocery store where we posted tax-inclusive prices for 750 products subject to sales tax for a three week period. Using scanner data, we find that posting tax-inclusive prices reduced demand by roughly 8 percent among the treated products relative to control products and nearby control stores. Second, we find that state-level increases in excise taxes (which are included in posted prices) reduce aggregate alcohol consumption significantly more than increases in sales taxes (which are added at the register and hence less salient). Both sets of results indicate that tax salience affects behavioral responses. We propose a bounded rationality model to explain why salience matters, and show that it matches our evidence as well as several additional stylized facts. In the model, agents incur second-order (small) utility losses from ignoring some taxes, even though these taxes have first-order (large) effects on social welfare and government revenue. Using this theoretical framework, we develop elasticity-based formulas for the efficiency cost and incidence of commodity taxes when agents do not optimize fully.

A revised version of this paper with new theoretical results may be downloaded here: <a href="http://elsa.berkeley.edu/~chetty/papers/taxsalience_aer.pdf">http://elsa.berkeley.edu/~chetty/papers/taxsalience_aer.pdf</a>