Social Security, Retirement Age and Optimal Income Taxation

It is often argued that implicit taxation on continued activity of elderly workers is responsible for the widely observed trend towards early retirement. In a world of laissez-faire or of first-best efficiency, there would be no such implicit taxation. The point of this paper is that when first-best redistributive instruments are not available, because some variables are not observable, the optimal policy does imply a distortion of the retirement decision. Consequently, the inducement of early retirement may be part of the optimal tax-transfer policy. We consider a model in which individuals differ in their productivity and their capacity to work long and choose both their weekly labor supply and their age of retirement. We characterize the optimal non linear tax-transfer that maximizes a utilitarian welfare function when weekly earnings and the length of active life are observable while individuals’ productivity and health status are not observable. JEL Classification: H55, H23, E62. Helmuth Cremer Université des Sciences Sociales de Toulouse Institut d’Economie Industrielle Place Anatole France 31042 Toulouse Cedex France Jean-Marie Lozachmeur Université Catholique de Louvain Bât.B31 Economie Publique Boulevard du Rectorat, 7 4000 Liege 1 Belgium [email protected] Pierre Pestieau Université Catholique de Louvain Bât.B31 Economie Publique Boulevard du Rectorat, 7 4000 Liege 1 Belgium