Inequality, Social Discounting and Estate Taxation

Emmanuel Farhi, Ivan Werning

NBER Working Paper No. 11408
Issued in June 2005
NBER Program(s):Economic Fluctuations and Growth, Public Economics

To what degree should societies allow inequality to be inherited? What role should estate taxation play in shaping the intergenerational transmission of welfare? We explore these questions by modeling altruistically-linked individuals who experience privately observed taste or productivity shocks. Our positive economy is identical to models with infinite-lived individuals where efficiency requires immiseration: inequality grows without bound and everyone's consumption converges to zero. However, under an intergenerational interpretation, previous work only characterizes a particular set of Pareto-efficient allocations: those that value only the initial generation's welfare. We study other efficient allocations where the social welfare criterion values future generations directly, placing a positive weight on their welfare so that the effective social discount rate is lower than the private one. For any such difference in social and private discounting we find that consumption exhibits mean-reversion and that a steady-state, cross-sectional distribution for consumption and welfare exists, where no one is trapped at misery. The optimal allocation can then be implemented by a combination of income and estate taxation. We find that the optimal estate tax is progressive: fortunate parents face higher average marginal tax rates on their bequests.

download in pdf format
   (445 K)

email paper

Machine-readable bibliographic record - MARC, RIS, BibTeX

Document Object Identifier (DOI): 10.3386/w11408

Published: Farhi, Emmanuel and Ivan Werning. “Inequality and Social Discounting.” Journal of Political Economy 115, 3 (June 2007).

Users who downloaded this paper also downloaded* these:
Farhi and Werning w12600 Progressive Estate Taxation
Shimer and Werning w11689 Liquidity and Insurance for the Unemployed
Kopczuk w15741 Economics of estate taxation: a brief review of theory and evidence
Golosov, Tsyvinski, and Werning New Dynamic Public Finance: A User's Guide
Farhi and Werning w16749 Insurance and Taxation over the Life Cycle
NBER Videos

National Bureau of Economic Research, 1050 Massachusetts Ave., Cambridge, MA 02138; 617-868-3900; email:

Contact Us