AGE-DISCRIMINATION IN WAGE TAXATION AND THE OPTIMAL TAXATION OF CAPITAL INCOME

This paper analyzes optimal wage and capital income taxation in an overlapping generations model in which old agents may work. Differences between private and social discount rates require taxing old and young workers' labor incomes at different rates, even when their labor inputs are identical. With loglinear preferences, the optimal steady-state tax rate on capital income is zero, independent of the equality of private and social discount rates. Alternatively when government is constrained to tax all labor income at the same rate, a non-zero capital income tax rate may be an appropriate substitute for age discrimination in the labor income tax rate.