Taxing Top Incomes in a World of Ideas

This paper considers top income taxation when (i) new ideas drive economic growth, (ii) the reward for successful innovation is a top income, and (iii) innovation cannot be perfectly targeted by a research subsidy — think about the business methods of Walmart, the creation of Uber, or the “idea” of Amazon. These conditions lead to a new force affecting the optimal top tax rate: by slowing the creation of new ideas that drive aggregate GDP, top income taxation reduces everyone’s income, not just income at the top. This force sharply constrains both revenue-maximizing and welfare-maximizing top tax rates.