A Simple Technique for Computing Optimal Tax Equilibria

The qualitative restrictions implied by the first-order conditions of the optimal tax problem are generally so weak that little can be said as to what constitutes an optimal set of taxes. It is therefore desirable that one have available a technique for computing optimal taxes in a full general equilibrium model. This paper proposes such a technique, based upon a fixed point algorithm of the type widely used to solve Walrasian general equilibrium models. Computing an optimal tax equilibrium is more difficult because the derivatives of the social welfare function and of the consumer demand functions must be calculated. Solutions to two types of sample problems are provided to demonstrate the technique.