Marrying into a Tax Bracket: A New Approach to Estimating Tax Elasticities

Despite economists long-standing interest in estimating tax elasticities, there are few studies providing disaggregated estimates. The typical approach to estimating tax elasticity typically relies on reforms that target a particular demographic group and thus provide measures for that particular demographic group (for example, by studying the response of labour supply to cuts in top-income tax rates). The lack of separate estimates of tax elasticity by base income, household income rank and gender leaves much room for controversy about optimal household taxation with many economists arguing that joint taxation of income hinders the integration of women into the labour market.

The design of the income tax system in France and the availability of the Housing and Individual Demographic Files (Fideli), provide a unique new opportunity for more disaggregated estimations of tax elasticities, across multiple points of the income distribution and for primary and secondary earners separately.

The strategy makes uses of the stepped design of the French marginal tax schedule to construct a quasi-experiment. Because of those steps, couples with marginally different household incomes immediately before marriage fall into different tax brackets after marriage.

Economic theory predicts that the marginal tax bracket defines the perception of how much work "pays". Couples with a household income of 55000euro face a marginal tax rate of 30% after marriage, and will likely to be less incentivised to continued work than members of households with a joint income of 54900 euro (100 euro less), facing a marginal tax of 11% after marriage. The elasticity is a measure of the sensitivity of choices to those different tax rates - which may be very well depend on baseline income, rank (breadwinner or not) and gender.

To isolate the effect of the tax from other factors that may influence the labour supply decision, the strategy is to compare couples just before and just after the threshold level of household income at which the tax rate jumps. The assumption is that any differences in socio-economic characteristics between observations to the right and left of the threshold are continuous and that the only difference between the two groups in the aggregate is the tax rate.

Although the proposed strategy can be used to analyse margins of non-labour related tax elasticities, such as fertility or divorce rate elasticities, perhaps the margin of greatest policy relevance is that of second income labour market participation. The latter is important for assessing the validity of the common claim that joint household taxation hampers women's

labour market integration with second income rates that are more dissuasive compared to those second earners would face under individual taxation.

Since marriage is available to all incomes and there are many income thresholds to assess, the method will provide a broader and more generalizable evidence base than the literature. The latter typically relies on idiosyncratic income tax reforms, affecting a particular decile of the distribution in a specific policy and macroeconomic context. Fideli's longitudinal form and the use of marriage as quasi-experimental source will provide more disaggregated estimates while reducing the risk of macroeconomic or political bias.