Before we get to the responses, we can put a theoretical
framework around the idea of taxing capital incomes (whether income
from assets or capital gains). The main targets for raising tax
revenue are labour income, capital income, and consumption. These
taxes are all imposed on households, but we should expect that they
will elicit different behavioural responses. From the perspective
of the household, taxes influence the decision about how much to
work and how much to save. To keep the model simple, we will assume
that the labour income is fixed (and so people will not work less
if we increase taxes on labour income). The model is as follows: People live for two periods. In the
first period they earn labour income and consume . In the second period
they consume , which is the amount
saved in period 1 plus the return on capital, . We can write the
household problem as: Which is to say that households maximise their utility by
choosing their consumption in period 1 and period 2, subject to the
constraint that they not consume more than they earn (earnings
include returns on savings).