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Tax Riots
Review of Economic Studies (2008)
  • Marco Bassetto, Federal Reserve Bank of Chicago
  • Christopher Phelan, University of Minnesota

This paper considers an optimal taxation environment where household income is private information, and the government randomly audits and punishes households found to be underreporting. We prove that the optimal mechanism derived using standard mechanism design techniques has a bad equilibrium (a tax riot) where households underreport their incomes, precisely because other households are expected to do so as well. We then consider three alternative approaches to designing a tax scheme when one is worried about bad equilibria.

Publication Date
July, 2008
Citation Information
Marco Bassetto and Christopher Phelan. "Tax Riots" Review of Economic Studies Vol. 75 Iss. 3 (2008)
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