Experimental evidence on tax salience and tax incidence

• Author: Francesco Nemore,Andrea Morone,Simone Nuzzo
• DOI: http://doi.org/10.1111/jpet.12295
• Date: 01 August 2018
• Published date: 01 August 2018

Received: 8 November2016 Revised: 7 March 2018 Accepted:7 March 2018

DOI: 10.1111/jpet.12295

ARTICLE

Experimental evidence on tax salience and tax

incidence

Andrea Morone Francesco Nemore Simone Nuzzo

Universitàdegli Studi di Bari Aldo Moro

AndreaMorone, Dipartimento di Economia,

Managemente Diritto dell'Impresa, Uni-

versitàdegli Studi di Bari Aldo Moro, Largo

AbbaziaSanta Scolastica 53, 70124, Bari, Italy

(andrea.morone@uniba.it).

FrancescoNemore, Dipartimento di Econo-

mia,Management e Diritto dell'Impresa, Uni-

versitàdegli Studi di Bari Aldo Moro, Largo

AbbaziaSanta Scolastica 53, 70124, Bari, Italy

(francesco.nemore@outlook.it).

SimoneNuzzo, Dipartimento di Economia, Man-

agemente Diritto dell'Impresa, Università degli

Studidi Bari Aldo Moro, Largo Abbazia Santa Sco-

lastica53, 70124, Bari, Italy; and Centro di ricerca

sull'economiadei paesi in transizione, Universiteti

KatolikZoja e Këshillit të Mirë, Tirana, Albania

(simone.nuzzo@uniba.it).

Although a basic theoretical principle in public economics assumes

that individuals optimize fully with respect to the introduction of

a tax, a growing body of research is proving that several heuristics

are in place when people take decisions. We re-examine the well

known liability side equivalence principle in the light of the concept

of salience. While these two topics have been extensively investi-

gated in isolation, this paper innovates on the previous literature in

that it focuses on their joint effects. Is tax incidence dependent on

whetherthe subjects face a salient rather than a nonsalient tax? Does

the salience of a tax exert a different effect depending on who is

legally committed to bear the tax burden? We address these ques-

tionsthrough a laboratory experiment in which one unit of a fictitious

good is being traded through a double-auction market institution.

Based on a panel data analysis, our contribution shows that point

of collection matters and determines the economic incidence of tax.

Additionally, we find that the joint effect of salience and statutory

incidence does not alter the informative efficiency, but has a posi-

tive effect on buyers’ allocational efficiency when the tax is leviedon

sellers.

1INTRODUCTION

Taxsalience and the implication of tax perception was first recognized by John Stuart Mill (1848), who stated that

Perhaps …the money which [the taxpayer] is required to pay directly out of his pocket is the only tax-

ation which he is quite sure that he pays at all. …If all taxes were direct, taxation would be much more

perceived than at present; and there would be a security which now there is not, for economy in the pub-

lic expenditure.

Sausgruber and Tyran(2005) investigated whether the incorrect perception of the tax can translate into distorted

fiscal choices by using a referendum mechanism. This tax misperception can be traced to the so-called phenomenon of

fiscal illusion, which more generally suggests that, when government revenues are not completely transparentor are

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2018 Wiley Periodicals,Inc. wileyonlinelibrary.com/journal/jpet Journal of Public Economic Theory.2018;20:582–612.

MORONEET AL.583

not fully perceived by taxpayers, the cost of government is seen to be less expensivethan it actually is. They showed

that subjects who are experienced with one tax regime make better decisions in the other tax regime than subjects

without such experience. Therefore, the direct tax regime leads to correct tax perception.

In a seminal paper,Chetty, Looney, and Kroft (2009) studied the impact of tax salience on consumers’ price percep-

tion as well as the subsequent effect on the demand for the taxed goods. The authors implemented a field experiment

at a Northern California grocery: while preserving the usual practice of posting tax-exclusiveprices for control group

products, the authors posted a tag reporting tax-inclusive prices below the original price tag for treatment group prod-

ucts. As a main result, Chetty et al. (2009) found that consumers were less prone to buy those products for which

the tax-inclusive price was shown. More interestingly, giventhe demand price elasticity, they found that the demand

reduction induced by showing tax-inclusive prices was roughly the same as that induced by a price increase equal to

the excluded sales tax from the shelf.As a consequence, the only plausible conclusion was that consumers simply did

not account for the tax scheme in making their purchasing decisions. In other words, the less salient the tax was, the

less it was accounted for.

Several papers report findings that are consistent with those of Chetty et al. (2009) (see, e.g., Finkelstein, 2009;

Gallagher & Muehlegger,2008; Sausgruber & Tyran, 2008, 2011). Then, the main insight we learn from this literatureis

that people overweight more prominent information, with the consequence that when the tax is less salient it induces

a smaller response in subjects’ behavior.

Our contribution re-examines the well known liability side equivalence (LSE) principle in the light of the concept of

tax salience, which is the extent to which taxes are visibleto taxpayers. While these two topics have been extensively

investigated in isolation, this paper innovates on the previous literature in that it focuses on their joint effects. Does

the level of tax salience or tax visibility matter toward the determination of economic incidence of an excisetax? Does

LSE continue to hold with the variation in the level of tax salience? Since salience and statutory incidence should not

provide unlike distributional outcomes taking them in isolation we expect that any interaction among them will not

impact on the informative and allocational efficiency of the market.

Taxincidence is nowadays one of the most debated issues in public economics. The relevance of the topic comes

from the fact that, in order to study the distributional effect of a tax system, it becomes crucial to understand who ulti-

mately suffers the burden of the tax. In this sense, the LSE principle holds that the burden of a unit tax on buyers and

sellers is independent of who actually pays the tax. In the Handbook of Public Economics, Fullerton and Metcalf (2002)

distinguish between “economic incidence” and “statutory incidence”:that is, the person who is legally committed to

pay the tax may not be the person who ultimately bears the real tax burden. Thus, according to neoclassical public

economic theory,the economic incidence of a tax depends solely on the relative elasticity of supply and demand; that

is, the more inelastic one bears a greater burden. In other words, buyers will bear more of the tax burden if demand

schedule is more inelastic than supply and vice versa. Nevertheless, there is a growing literature(see, e.g., Biswas, Wil-

son, & Licata, 1993; Chetty et al., 2009; DellaVigna, 2009; Krishna, Briesch, Lehmann, & Yuan,2002; Slemrod, & Bakija,

2008), showing that other issues, such as behavioral and institutional factors, might affect tax incidence. In this sense,

Cox,Rider, and Sen (2017) investigated the influence of market institutions on tax incidence. Due to the coexistence of

many types of markets, each with different properties and mechanisms for the determination of price and quantities

traded between sellers and buyers, it is plausible to suppose that different market configurationsmight lead to differ-

ent incidence results. Cox et al. (2017) addressed two important research questions: Is tax incidence independent of

the assignment of the liability to pay tax in experimental markets? Is tax incidence independent of the marketinsti-

tution in experimental markets? Comparing a double-auction (DA) institution with a posted-offer market,1Coxet al.

1In experimental DA marketsbuyers and sellers are free to declare a price quote for one unit of the fictitious commodity within certain time constraints.

Each exchangecovers a single unit of commodity and is realized when one of the parties accepts the price quote proposed by the other party. In posted-offer

markets the seller publishes the prices of goods, possibly limiting the amount for sale and the buyer decides to buy this good on the basis of a comparison

betweenthe prices published by different sellers.