RICERCA ITALIANA     

Reforming the fiscal system (IRE e IRES): efficiency and equity issues

Università degli Studi di Parma

Abstract

This research project intends to investigate in a comprehensive way the allocative and redistributive consequences of the recent Italian reforms of fiscal system in Italy, focussing on the critical assessment of the personal income tax system over the past 10 years and of the future reforms perspectives. We will analyze in detail the theoretical and empirical issues related to these reforms (and their relationships with the equivalent ones introduced in EU and other countries) in the light of the recent developments of economic analysis and in an historical perspective, going back to the Italian tradition.

The current reforms in Italy had the objective to modernize, rationalize and increase the transparency of the fiscal system and to reduce its burden. The new ambitious project of reduction of the fiscal burden involves two distinct phases, of which the first one was designed in the 2003 public budget law and the second one is expected to be incorporated in the 2004 public budget law. Our study will analyze the impact of the two distinct phases and possible alternative schemes, not only at an individual level but more in general considering the family as a unit and its interaction with fiscal and social security measures. Accordingly, we will build and validate a dynamic microsimulation model, including a new personal income tax module in the MIND model (build to study the reforms of the pensions' system cf. Vagliasindi, 2004). In this way, we will effectively analyze personal income tax laws implementation from 1995 to 2004 and consider in detail the implication of fiscal policy on tax progression, inequality and poverty. Using the dynamic microsimulation methods we will assess whether a single reform or the overall design is socially desirable and in line with to the stated objectives of the ruling class, assessing pros and cons of these reforms.

We will also analyse corporate taxation reforms, modelling firms' behaviour in situations of risk. Profit taxation affects firms' financial abilities, reducing the expected outcomes (expropriating a quota of profits) as well as the level of losses (since the public sector bears the burden of part of the losses). This problem will be considered in simulation model with heterogeneous agents and asymmetric information, examining how taxation affects the performance of the economic system in terms of stabilization and of growth. This model will bring us near to reality and to our final aim to microsimulate the overall evolution of the economic system. Specifically, our analysis will aim to assess how the presence of different tax schemes can modify the trend and the volatility of the aggregate output, influencing private propensity to risk, the distribution of firms' dimensions and rates of growth, the number and the magnitude of bankruptcies and the crises of financial markets. Considering efficiency issues in taxing capital incomes, we will apply the methodology developed in Vagliasindi-Visco (2004) to face the problem of fiscal neutrality, analysing the possible implications of arbitrages and elusive behaviours to the actual and proposed design of the Italian tax systems.

Since the project compares the situation of different countries and is articulated in a multidisciplinary way, specific knowledge is needed in the ambit of the different areas (economic-quantitative, legal, institutional), besides the use of external collaboration for the elaboration of data and building specific programs, based on existing working prototypes developed by the proponent. Accordingly, we welcome external collaboration from all relevant stakeholders and we plan to form an external group of excellent level, coming from different institution and research centres starting from the SECIT economists and the collaboration already in progress with the economists from the Bank of Italy, and the statistician from ISTAT. <<<

Principal Investigator

Pietro VAGLIASINDI Università degli Studi di PARMA

Research Objectives

The main purpose of the present research project is to analyze the possible socio-economic impact of changing patterns of the Italian system of income taxation over the last 10 years, in order to assess policy makers' choices in terms of efficiency and equity and its possible interaction with the social security system. We will also offer a detailed and rational evaluation of the recent theoretical models and of the latest reform proposals related to the taxation of personal and corporate incomes (also in the light of the recent evolution in other countries).
Specifically, the recent Italian reforms of the income taxation had the objective to modernize, rationalize and increase the transparency of the fiscal system (simplifying the tax rates schedule -reducing the number of income brackets- and introducing different schemes of tax credits, fiscal exemptions, family allowances, …), improving the efficiency of the market, promoting development and economic stability and reducing poverty and inequalities (that are crucial issues in the political and economic debate).
To assess new fiscal schemes, there is a need to build a model able to determine their impact in terms of efficiency and equity. The microsimulation tools that we will use allow us to assess whether a single reform or the overall fiscal system based on income is socially desirable (e.g. from a redistributive point of view) and in line with to the stated objectives of the ruling class.
The corporate taxation schemes implemented in the last decade will be also considered in a simulation model with heterogeneous agents and asymmetric information. This will allow us to model firms' behaviours closer to reality and to shed new lights on the economic consequences of the tax system on firms, which in turn will be useful to dynamically microsimulate the overall evolution of the economic system. In fact, the presence of taxes modifies the trend and the volatility of the aggregate output, influencing private propensity to risk, the distribution of firms' dimensions and rates of growth, the number and the magnitude of bankruptcies and the crises of financial markets.

Personal income tax laws implementation from 1995 to 2004 will be effectively simulated by building and validating a new personal income tax module in the MIND model (a dynamic microsimulation model built to study the reforms of the pensions' system). In this way, we will consider its implied progressivity and its economic impacts from 1995 to date, as well as the implication of future changes proposed by the government. Family survey based income data will be matched with individual taxpayers' data using an appropriate statistical and econometric methodology. Furthermore, since our purpose is to study the impact on family incomes and on the whole economy, we will explicitly consider the family choices and the adjustments needed to obtain a final equilibrium. The analysis will be conducted not just for Italy as a whole, but also and more particularly for different geographical areas (North, Centre and South), employment sector (self employed, private and public dependent workers and pensioners) as well as different family types, thus allowing to highlight in greater details the dimensions for which negative effects might have taken place and where, on the contrary, net positive results might have occurred instead.

The research will be coordinated by the Parma research unit in cooperation with the SeCIT economists, Vincenzo Visco (based in Rome) and the Perugia research unit.

Specifically, the Perugia research unit will examine the recent fiscal reforms in other European and international countries to offer a comparative assessment and the relevant aspects connecting taxes to the financing of social security and assistance. Given the aim to reduce poverty and inequality, the unit will examine the necessity to coordinate the efficiency and equity issues in taxation and social expenditures and consider possible moves towards a ‘negative income tax' system. It will develop and select model and hypotheses in order to verify the efficiency and equity features and to suggest possible development of current reforms to be simulated jointly with the Parma unit.

Under the lead of Vincenzo Visco we will analyze corporate taxation issues appropriately modelling firms' behaviour. Specifically our analysis will aim to assess whether (and how much) taxation may reduce the firm's rate of growth and its volatility and the likelihood that small idiosyncratic shocks at firms' level can produce broad aggregate fluctuations.

The Parma research unit will mainly work at analysing the changes in the tax law and its implementation and in developing and applying the dynamic simulation analysis to the study of the evolution of the income tax, considering the implications for the families and the economic system (at the level of single geographical areas and family typologies) of tax changes, to appraise in terms of equity (and efficiency) policy choices. The analysis will also examine the effects on tax progression, inequality and poverty, considering in detail the changes to the personal income tax from 1995 to 2004, by estimating Lorentz concentration curves and comparing incomes distributions and/or by using appropriate indexes based on these distributions.

To implement such a complex analytical and quantitative study in the most effective way, the project will be structured in several phases.
In the preliminary phase we will design a template and a work plan that will be divided in specific themes to be examined in detail, with an individual assignment of tasks and responsibilities.
Specifically, apart from coordinating the project, Vagliasindi will mainly devote its time to the model building and simulation activity, Visco will mainly deal with the taxation of firms, Dallera and Boccaccio with the tradeoff between efficiency and equity in taxation and social expenditures, Verga with the firms - banking system relationship, Di Chiara with the international issues and Menti with the legal aspects of the reforms. Secit economists will be involved with issues related to incomes taxation (Di Nicola), local taxes (Monteduro).
In the first phase we will concentrate on the critical assessment of the existing literature, on the refining of the proposed methodology, on the construction of a new database and on the creation a web-site to advertise the existence and objectives of the group, to favour possible external adhesions and make available the initial scientific results. At the end of this phase, a workshop will take place to receive comments on a preliminary report gathering the different contributions.
In the second phase we will proceed to the empirical analysis of the potential impact and to the formulation of policy implications and, on the basis of the progress already made, we will identify a revised work plan also in order to further harmonize the individual contribution. We plan (i) to submit to academic journals the contribution coming from the technical research and specific and (ii) to publish a collective volume in Italian and in English with an international academic publisher. Moreover, the work related with a detailed analysis of fiscal systems of foreign countries, can be a starting point of further applied work to be realised under a new joint research at the EU level.
In this perspective, the creation of a web-site will be a very useful starting point to disseminate scientific results and other material (eventually resulting in an observatory) as well as to encourage the awareness of these themes, also at a policy making level. Accordingly, we feel very encouraged by the interest for the program already shown by economists of the SECIT. <<<

First Results

In the first phase we will reach the partial results described below.

1. Acquisition of documentation and teaching materials to make available to participants and more in general to students and to the large public of interested .

2. On-line bibliographies on the different issues and study field already investigated and links to on-line web-pages fully available to participants and more in general to interested scholars and students.

3. Production of working papers and lay out of preliminary papers representing the first drafts of the book to be written in English.

4. Preliminary version of the book in Italian on the socio-economic effect of the evolution of the tax system, gathering the different contributions of the participants.

5. New contacts with external researchers and national and foreign institutions also to program possible comparative studies and detailed analysis problems of integration EU.

6. Formulation of basic dynamic models and modules to microsimulate the effects of fiscal policies on families and firms.

7. Modelling the joint effects of the Fiscal and Social Security system on individuals' and families' choices related to the participation to the labour market.

8. Development of hardware and scientific software and completion of the first contributions in terms of theoretical and empirical work related to models building and hypothesis testing with respect to:
(i) adapting existing models considering the presence and consequences of the relevant parts of the tax system and of their changing patterns in time,
(ii) the analysis of the joint effects of the recent fiscal reforms (2003-2004) and social security reform (2002) on families with pensioners in Italy,
(iii) the study of the pension system and effects of changes to seniority pensions (to be realised in 2004) explicitly considering possible fiscal implications.

9. Support the progress of researches (of scholars and students) and formulate proposals for undergraduate and postgraduate theses to be assigned in the subjects of interest.In the second phase of the research we will reach the following objectives:

1. Update the scientific and policy oriented contribution, documental and teaching material available on the website and in the observatory for the dissemination of the relevant knowledge material to the large public of interested scholars;

2. Updating and finalization of on-line bibliographies on the different topics already investigated and links to on-line web-pages fully available to participants and more in general to interested students.

3. The elaboration of the final versions of papers for the publication in academic scientific journals and policy oriented reviews and laying out of the first drafts of the book in English inclusive of the contributions and the results achieved by the research group submitted to an international publisher;

4. Organization of (and support to the participation to) seminars and congresses to discuss the results achieved by the research group and to provide proposals on future possible comparative studies and detailed analysis problems of fiscal integration and harmonization in the EU.

5. Final formulation of microsimulation models devoted to the study of the impact of income taxation on firms and persons;

6. The calibration and estimation of the final versions of the dynamic microsimulation model for Italy, specifically devoted to the study of the impact of income taxation on families that can be used to examine the joint effects of the Fiscal and Social Security system on individuals' and families' choices related to the participation to the labour market.

7. Building and predisposition of an apposite module for the empirical testing of the effectiveness of fiscal policies (to be used jointly with the dynamic microsimulation model of IRPEF/IRE) in relation to redistributive objectives and to poverty reduction and the actual achievement of the result to be published;

8. Support the progress of researches (of scholars and students) and formulation of undergraduate and postgraduate theses to be assigned in the subjects of interest. <<<

Timescale

24 months

National and international background

The public financial activity creates distortions that change individual choices. The policy makers must then choose among different alternatives in terms of efficiency and equity. These considerations are particularly important in Italy, where the financial activity often considered short term objectives, creating a tax system where each category of taxpayer had an incentive to maximize his own privileges, also at the expenses of the less advantaged categories. Therefore it is necessary to assess fiscal reforms (and their interactions with social security), analysing the various aspects of the allocative and redistributive impact in the medium-long period, to improve efficiency and equity.
There is a wide international economic literature dealing on equity and efficiency issues in fiscal reforms. Taxation affects economic efficiency by introducing as well as correcting distortions, cf. Auerbach, Hines (2002).
Many recent detailed works are related to international experiences of fiscal reforms: in Japan (De Witt, 2002), in Australia (Freebairn, 1999), in Germany (Hettich, Arndt, 2001), (Strulik, 2003) and in Finland (Valkonen, 2001). A few years ago, the perspectives and problems of fiscal reforms have been also reconsidered in the Italian case following different perspectives by Arachi (2002), Baldini, Bosi (2002), Bernardi (2002), Giannini (2002), Giarda (2002), Guerra (2002), Paladini (2002), Petretto (2002), Visco (2002). These, and other works, may constitute useful starting points to analyse current and future Italian reforms.
Progressive personal income taxation has been recently reconsidered by De Donder, Hindrichs (2003), Shapiro (2004) and Fuers, Huber, Nielsen (2003).
The effects of corporate income taxes have been recently examined by Gordon, Lee (1999), Gordon, Slemrod (1998), Graham (1999) and Bond Devereux (2003). Wider theoretical profiles on generalised cash-flow taxation are considered in Auerbach-Bradford (2004) and on neutrality in Vagliasindi, Visco (2004).
Tax avoidance and competition may also have important implications for redistributive policies and allocative efficiency. These issues have been dealt by Hines-James (2004) and by Wilson-Wildasin (2004) and the quoted literature. Issues related to the tax basis (cf. Gordon, Kalambokidis, Slemrod, 2004 and Vagliasindi, Visco, 2004) and the effective tax rate imposed on corporation income have been subject of a long-lasting debate, cf. Slemrod (2004).
In relation to tax reforms and schemes of negative income taxes the effects of taxation and social insurance on the labour market is a crucial issue. Useful references on these issues are Dawkings, Beer et al. (1998), Feldstein, Liebman (2002), Krueger, Meyer (2002), Hindricks, Donder (2003), Hoffmann, Siedman (1990), Moffitt (2002) and(2003), Slemrod (1994), Triest (1990). On the empirical side Vagliasindi (2004) - especially chapter 4 - will be a useful starting point to analyse current and future Italian reforms in these areas.

Microsimulation models have became a major tool to analyze the economic impact of different fiscal policies. These models seek to explain not just the mean E(y / x, z) of endogenously generated variables y (e.g. income), but also their distribution, given exogenous variables x (for example, pre-tax incomes, and personal socio-economic characteristics), and fiscal policy variables z (e.g. the income tax system).
The method was initially developed by Guy Orcutt (1957, 1961) in the USA. Several dynamic models have been developed to simulate particular aspects of the socio-economic system, or the entire system in Europe, North America and Australia. In the case of the US, we can refer to the Dynamic Simulation of Income Model (DYNASIM I&II), the Pension and Retirement Income Simulation Model (PRISM), and the Cornell Simulation Model (CORSIM). The first two models have been applied to study the impact of the fiscal system and possible reforms of the pension systems, while the third one has mainly focused on inter-temporal processes and behavioural issues (such as the accumulation of wealth) and the redistributive impact of the social security system.
Similar issues have been targeted by other important models, such as DYNACAN from Canada, NEDYMAS in the Netherlands DYNAMOD in Australia and DESTINIE in France. Finally, we should mention EUROMOD, a model in phase of realization, financed by the European Union to simulate whole European fiscal reality.
With dynamic microsimulation models it is possible not only to measure the economic equality, estimating the distribution of disposable income in a given year, but also extending the period to cover several years, or the entire lifetime of different generations. Excellent surveys of dynamic microsimulation models and applications to policy analysis can be found in O'Donoghue (2001) and Zaidi-Rake (2001). These models are generally based on detailed demographic and social security modules, but they are usually characterised by few behavioural specifications.
In Italy, static microsimulation had been based on the Surveys of Household Income and Wealth (SHIW) implemented by the Bank of Italy. The first model, built by Sergio Lugaresi in 1988, at ISPE (the Institute for the Study of Economic Planning), called ITAXMOD84 (and then ITAXMOD) had the purpose to simulate the taxation of personal incomes - cf. Di Biase, Di Marco, Di Nicola e Proto (1995). Two models, with similar aims, were TBM91 (built by D. Rizzi and N. Rossi in 1990) and DIRIMOD (built by D. Mantovani in 1992 in collaboration with the research centre PROMETEIA and the University in Bologna).
In Italy dynamic microsimulation still represents largely an unexplored area, with the exception of the model of L. Cannari and S. Nicoletti Altimari (1998), built to analyze the effects of demographic changes on savings and the pension system and the MIND
(Micro-Italy-National-Dynamics) model that will be the first basis of foundation for our analysis. For a description of the model and its applications, see Vagliasindi (2004).

By building and validating a new personal income tax module in the MIND model, we will consider the implied progressivity and the redistributive impacts from 1995 to date, as well as the implication of future changes of the fiscal system proposed by the government.
To achieve such an aim we may develop a specific model of family choices, where the labour supply depends from the composition of the family and from other individual characteristics. Each family maximises his utility, choosing working ours under the family budget. In such a context the tax system and its changes will modify family budgets (cf. Beninger, Laisney, Beblo 2003 and Laisney, 2002, ed.).
Specifically, the project will offer an analysis that deepens and complements the work of Baldini, Bosi (2002) and, more recently, Di Nicola (2003), allowing for a more comprehensive evaluation of fiscal reforms. To be able to produce more meaningful and coherent estimates, the two database - the one representative of incomes declarations and the other representative of families (SHIW, Bank of Italy) - will be coordinated through a statistical matching between individuals and families. Only by creating a fiscal database opportunely validated it will be possible to improve the reliability of disaggregated future tax yield, when microsimulating the dynamics related to the subsequent fiscal manoeuvres or phases of the income tax reform.

The analysis of firms' taxation (and of its simulation in situations of risk) is a critical issue in the modelling of firms' behaviour. The classical Domar and Musgrave (1944) paper contrasts the traditional point of view - according to which profit taxation discriminates against the risk, reducing the expected output expropriating a quota of profits and prize of the risk insurance. One of the basic ideas of their work is that the compensation of the losses increases the propensity to risk (the quota of the risky assets in the portfolio that maximises expected utility), since the public sector bears the burden of part of the losses.
The most recent economic literature has extensively analysed this issue, as well as the imperfections and incompleteness of monetary and insurance markets.
The fundamental theorem of non-decentralisation due to Greenwald and Stiglitz (1986) shows how the State can improve upon the market, in terms of efficiency. Such a theoretical approach has been applied by Greenwald and Stiglitz (1993) to the theory of firms and the problem of the business cycles. Departing from such a contribution, it is possible to design an agent-based simulation model, starting from the contribution of Delli Gatti, Gallegati, Giulioni and Palestrini (2003). Such a model is in fact able to repeat empirical regularities related to the firm sector -a distribution à la Zipf of the dimensions and à la Laplace of the rates of growth- present, both in the real data of different countries, and in empirical evidence in the time. Si veda ad es. Stanley et al. (1996), Amaral et al. (1997), Axtell (2001), Gaffeo et al. (2003) citati nel modello B del gruppo di Parma.
In this way we can build an appropriate model were to consider efficiency and neutrality issues related to the corporate tax system developing the Vagliasindi, Visco (2004) approach and applying it to the current and future corporate tax and its integration with personal income taxation. Starting from thise model we can correctly describe the distributive consequences of the tax system on firms, keeping track of the complex interactions among the taxman, the firms and the banking system, moving definite steps forwards towards the final aim of the analysis, i.e. to dynamically microsimulate the overall evolution of the economic system. <<<