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>Comment on'A dynamic portfolio choice model of tax evasion: Comparative statics of tax rates and its implication for economic growth'
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Comment on'A dynamic portfolio choice model of tax evasion: Comparative statics of tax rates and its implication for economic growth'
Yitzhaki's (1974) one-and-a-half page note on Allingham and Sandmo's (1972) pioneering static model of income tax evasion was one of the most important theoretical contributions to the tax evasion literature. Yitzhaki showed that when the government imposes penalties on the amount of taxes evaded (as is the case in many countries), then the theoretical prediction of a standard portfolio choice tax evasion model is that higher tax rates encourage tax compliance.1 The intuition behind Yitzhaki's result in a static setting is as follows. When penalties are imposed on unpaid tax liabilities, an increase in the tax rate increases the penalties paid and the marginal benefit of cheating proportionally, thus eliminating a substitution effect. Therefore, a rise in the tax rate produces a pure income effect. As highe. taxes reduce the taxpayer's income, tax compliance will improve, if one assumes a decreasing absolute risk aversion.
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