Effects of Income Mobility and Tax Persistence on Income Redistribution and Inequality

Abstract

We conduct a controlled laboratory experiment to explore the effect of income mobility and tax persistence on equilibrium tax rates and inequality. The theoretical framework of the experiment captures the essential elements of the prospect of upward mobility (POUM) hypothesis in a two-period model and characterizes the dynamic equilibrium tax rates. The experiment allows for a clean test of causality between income mobility and redistributive taxes. Outcomes observed in the experiment are mostly consistent with the comparative static predictions of the model. Mobility and stickiness of taxes lead to lower tax rates, but neither is sufficient by itself. When tax rates are persistent, mobility has a significant negative effect on median implemented taxes. An increase in tax persistence decreases tax rates and increases inequality when mobility is present. An increase in mobility decreases inequality but the effect is modest and not statistically significant.

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