Wage growth and income tax revenue elasticities with endogenous labour supply

Analytical expressions for income tax revenue elasticities treat earnings as exogenous, so that they do not accommodate the endogenous response of labour supply to the income tax system. This paper shows how these expressions can be adapted to allow for endogenous labour supply. It identifies how far, and in what circumstances, labour supply effects are quantitatively important for revenue responsiveness estimates, both for individual taxpayers and in aggregate. It is shown that even a relatively simple tax-benefit structure can produce labour supply responses, which lead the tax-wage elasticity to differ from the tax-income elasticity.