Do labour taxes (and their composition) affect wages in the short and the long run? / by Alfonso Arpaia and Giuseppe Carone

This paper explores the empirical relationship between taxes on labour and labour costs by modelling the wage formation mechanism in a dynamic context. In competitive markets the quantity traded in the market is independent of the side of the market which is taxed. In contrast, in imperfect competitive markets, the composition of the tax burden on labour may not be irrelevant. A shift of social security contributions from employers to employees which leaves the average tax wedge unaffected may still affect the after-tax wage. A similar argument holds for a shift from social security contributions to income taxes. We verify if the distribution of the tax burden between workers and employers affects the wage formation mechanism, both in the short and in the long-run. Finally, we test the hypothesis that the effects on real labour costs of changes in the tax burden and/or in its distribution between workers and employers are mediated by the extent of centralisation and coordination of wage bargaining. We test whether centralisation and coordination are associated with wage moderation.