Growth Effects of a Flat Tax

This paper develops a quantitative general equilibrium model to assess the growth effects of adopting a flat tax plan similar to the one proposed by Hall and Rabushka (1985, 1995). Using parameters calibrated to match the progressivity of the U.S. federal tax schedule and other features of the U.S. economy, we find that a revenue neutral flat tax can permanently increase per capita growth by 0.18 to 0.85 percentage points per year. Both features of a flat tax—the lower marginal tax rate and the full investment write-off—are important contributors to the growth gain. The strength of the growth effect depends on: (1) the elasticity of household labor supply, (2) capital’s share of output, and (3) the elasticity of the capital stock with respect to new investment.