Ideas That Fall Flat: The Effect of Flat Tax on Income Inequality

Abstract

We examine the effect of flat-rate taxation on income inequality in the post-communist countries. The study contributes to the debate about the political economic consequences of the trade-off between efficiency and equity of taxation policies. The design of an effective redistribution system is highly desirable for any type of political system, and it needs to address concerns over the distribution of tax burden across various income brackets. This leads governments to choose between the range of highly progressive to completely flat-rate taxation regimes. Economic theory has offered approaches to the analysis of the equity gains of flat tax policies by stressing the potential minimization of social welfare loss through economic growth, labour supply and capital accumulation. We find that flat taxation adoption is positively associated with an increase in income inequality. Our findings provide new cross-country evidence that flat tax policies substantially contribute to greater income inequality.