Damian Vergara Dominguez, UC Berkeley Graduate Student, UC Berkeley Economics
Abstract: This paper characterizes optimal redistribution for a social planner with three instruments: labor income taxes and transfers, corporate income taxes, and a minimum wage. The modeled economy features search-and-matching frictions, generates positive firm profits in equilibrium, and can accommodate limited employment effects and spillovers to non-minimum wage jobs after minimum wage increases. The analysis formalizes the effects of the minimum wage on the relative welfare of low-skill workers, high-skill workers, and capitalists as a function of sufficient statistics for welfare, social preferences for redistribution, and fiscal externalities. Minimum wages are more likely to be desirable when corporate taxes are low because minimum wages can generate corporate revenue losses. Minimum wages can improve welfare even under optimal income taxes by shifting the incidence of the tax system when there is bunching in the wage distribution at the minimum wage. I estimate the sufficient statistics that guide the welfare analysis using US state-level variation in minimum wages. Minimum wages have increased low-skill workers' welfare with null effects on high-skill workers. Aggregate welfare effects on capitalists are negligible but they are negative and sizable in certain industries, namely labor-intensive services exposed to minimum wage workers. Income maintenance benefits have also decreased after minimum wage hikes, suggesting that the effects of minimum wage increases on labor market outcomes generate fiscal externalities. Empirical results motivate a simplification of the model that allows concluding that optimal minimum wages are higher under international tax competition and that at the joint optimum optimal redistribution toward low-skill workers possibly uses both a binding minimum wage and an EITC.