Wednesday, November 24, 2004

Estate Tax

Holtz-Eakin talked a bit about what he had been working on before moving to Washington: the estate tax. He pointed out that while economists have a very good understanding of what the effects of an income tax or an excise tax are, the effects of the estate tax are poorly understood; and thus be wary of any claims by economists as to what it will do (this debate will come up in relation to making the estate tax reductions permanent, it is set to revert to 2000 levels in 2011, after having been phased out by 2010). Unlike other taxes where it is pretty transparent what motivates people -- at least in an economic sense -- accumulating an estate has unclear economic motivations. It is obvious why raising the marginal income tax rate might cause me to slightly reduce my hours worked, given that I work to generate income and this reduces income (although this substitution effect might be balanced out by the income effect and labor market rigidities). But it is unclear, from an economic standpoint why people acquire estates. Why should I want to have millions of dollars lying around when I die? In terms of my own utility, doesn't that seem to be something of a waste? So it is very hard to theorize about what it means to people to know that their estates will be taxed. How this will affect their behavior. If it turned out that people acquired estates by accident, that is, they just couldn't spend all their money and so it was lying around, then the estate tax has no impact on their behavior when they are alive. But if all estates are acquired with perfect awareness, then a high estate tax would change behavior: perhaps reduce savings among the elderly (or increase it, if they have a target of what they want to leave to the next generation); maybe people won't take as many risks if they know that their "legacy" wouldn't be as large. Speculation is quite interesting.

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