Higher Taxes at the Top: The Role of Entrepreneurs

Abstract

This paper computes optimal top marginal tax rates in Bewley-Huggett-Aiyagari–type economies that include entrepreneurs. Consistent with the data, entrepreneurs are overrepresented at the top of the income distribution and are thus disproportionately affected by an increase in the top marginal income tax rate. The top marginal tax rate that maximizes welfare is 60 percent. While average welfare gains are positive and similar across occupations along the transition, they are larger for entrepreneurs than for workers in the long run, and this occupational gap in welfare gains after the tax increase widens with increasing income. (JEL D11, D21, D31, H21, H24, L26)