A TEST OF THE THEORY OF OPTIMAL TAXATION FOR THE UNITED-STATES, 1869-1989

A popular theory of optimal tax policies suggests that tax rates shoul d follow a random walk. This paper extends the existing empirical lite rature in three ways. First, the impact on the marginal utility of con sumption when the government chooses a tax plan to smooth the distorti ng impact of taxes is considered. Second, exogenous changes in the rea l rate of interest are incorporated into the government's optimal tax plan. Finally, the tax elasticity of output is not constant over time. Allowing for these changes, there is evidence that the government dis counts the future, attempts to smooth the distorting impact of taxes o n the marginal utility of consumption, and that the tax elasticity of output moves predictably during wars.