1) The Diamond and Saez paper does not tell us what the revenue-maximizing tax rate is. It gives us a formula which (subject to their assumptions) allows us to calculate such a rate (the marginal rate on high earners), if we know the elasticity of taxable income and a parameter describing the shape of the high-end tail of income distributions. The 54% Tim quotes is just a number he likes.
Looking at the Diamond and Saetz paper we get:
illustration using the different elasticity estimates of Gruber and Saez (2002) for high
income earners mentioned above, the optimal top tax rate using the current taxable
income base (and ignoring tax externalities) would be ?*=1/(1+1.5 x 0.57)=54 percent while the optimal top tax rate using a broader income base with no deductions would be
?*=1/(1+1.5 x 0.17)=80 percent. Taking as fixed state and payroll tax rates, such rates
correspond to top federal income tax rates equal to 48 and 76 percent, respectively.
Note that the \”payroll taxes\” which they include would very much include employers\’ NI in our UK case.
Further, there\’s good reason to think that the territorial nature of the UK tax system, as opposed to the citizenship based US one, would mean that the optimal top UK rate will be lower.
And I certainly think that they telling us the actual top optimal rate there, not just providing a formula.