Using the Discrete Model to Derive Optimal Income Tax Rates

I demonstrate how the discrete model of optimum income taxation can be used to derive the structure of optimal income tax rates. I compare simulations of the discrete and continuous models of optimum income taxation under identical circumstances, based on U.S. wage data. The two models produce similar results once the number of types used to represent the skill distribution is sufficiently large. Whether the discrete or the continuous model is used, in order to accurately capture the shape of the optimal schedule of marginal tax rates, a large number of taxpayers should be employed.