Tax distortions from inflation: What are they? How to deal with them?

Authors

DOI:

https://doi.org/10.3326/pse.47.3.3

Keywords:

tax policy, inflation, bracket creep, indexation, fiscal policy, income taxation

Abstract

Inflation that is fully anticipated has few real effects in purely private market economies, but this need not be the case in the presence of taxation. In practice, tax systems are not neutral with respect to inflation – though some countries have attempted make their tax systems inflation-neutral in the past – and this paper provides a comprehensive overview of the most relevant non-neutralities, drawing on existing literature, but also supplying new illustrations and evidence of the effects. The paper shows, for example, how taxing inflationary gains can have a large impact on effective tax rates – even at relatively low rates of inflation. It also shows how partial coverage of protection against inflation – for some types of incomes only – can create additional distortions. A new empirical analysis reveals how the erosion of the value of depreciation allowances through inflation affects investment.

Author Biography

Alexander Klemm, International Monetary Fund, 700 19th Street NW, 20431 Washington DC, USA

Division Chief, Fiscal Affairs Department

Downloads

Published

2023-09-04

How to Cite

Beer, S., Griffiths, M., & Klemm, A. (2023). Tax distortions from inflation: What are they? How to deal with them?. Public Sector Economics, 47(3), 353–386. https://doi.org/10.3326/pse.47.3.3

Issue

Section

Articles