ABSTRACT
Chapter 7 considers the incentive effects of taxation on savings behavior. We begin with the effects of wage taxation in the two-period, life-cycle model of savings and labor supply. The conflict between the income and substitution effects in various contexts is worked out. This leads to the prediction that the elasticity of tax with respect to the after-tax interest rate is small. We then consider the incentive effects of taxation on savings when there are capital market distortions. We then examine broader models of savings and taxation - in particular the work of Summers who argues that the interest elasticity of savings is much higher in more complex lifecycle models (and reality) than the two-period one. This result leads to the question of whether expenditure taxes would be more suitable than income taxes. This issue is considered in detail here. The chapter also discusses the links between saving and social security as well as computable models of effects of taxation on savings. A review of the empirical evidence on savings and taxation is also provided.
