On the Optimality of Differential Asset Taxation

In this paper I study the optimality of differential asset taxation in an environment with entrepreneurs and workers in which output is stochastic and entrepreneurs can misreport profits and abscond with capital. I show that a stationary efficient allocation may be implemented as an equilibrium with endogenous collateral constraints, transfers to newborns, and linear taxes on profits, investment, and interest. Further, these taxes differ from one another and serve distinct purposes. The profits tax shares risk and depends solely on the severity of the misreporting friction, while the remaining instruments determine the efficient mean and variance of entrepreneurs' consumption growth.