Effects of flat tax reforms in Western Europe on equity and efficiency

Alari Paulus, Andreas Peichl

FiFo/ März 2008/ Discussion Paper, FiFo-Köln

Abstract
The flat income tax has become increasingly popular recently, yet its implementation is limited to Eastern Europe. We analyse the distributional and efficiency effects of flat tax scenarios for Western European countries. Our simulations show that flat tax rates required to attain revenue neutrality with existing basic allowances improve labor supply incentives. However, they result in higher inequality and polarisation. Flat rates necessary to keep the inequality levels unchanged allow for some scope for flat taxes to increase both equity and efficiency. Our analysis suggests that Mediterranean countries are more likely to benefit from flat taxes.