In making decisions, individuals rely on certain heuristics or cognitive biases. One of these is salience, which generally refers to visibility or prominence. Individuals are likely to focus on items or information that are prominent or salient and ignore those that are less visible. This paper develops an argument for exploiting this cognitive bias in designing or changing taxes. Most commentary assumes that the intentional use of low-salience taxes by the government is undesirable and that increased salience is always required; to do otherwise is to take advantage of the cognitive bias that causes individuals to ignore taxes that are not prominent or salient. Although increasing salience is often desirable, there is a political economy argument for intentionally exploiting this bias by incorporating low-salience provisions into tax design. In developing the argument that utilizing this bias may be an appropriate fiscal tool, the paper begins by setting out the differences between transparency, complexity, and salience, which are often confused in the literature. The paper then makes a normative case that it is appropriate for legislators to design a tax by intentionally exploiting the cognitive bias that causes individuals to ignore information that is not prominent. The paper differs in two ways from past literature discussing salience. First it considers salience with respect to federal income taxes. Most commentators have explored salience in connection with consumption or commodity taxes. Second it considers the salience of discrete provisions, rather than merely the salience of the tax itself. It concludes with a case study where the use of low-salience tax provisions are justified and effective, i.e. where Congress finds it necessary to minimize the prominence of the tax because politically it cannot increase marginal tax rates.
Thursday, September 09, 2010
When Should the Government Exploit the Salience Bias in Taxation?
This paper is provocative enough for it to automatically appear on my reading list for doctoral public finance. By Deborah Schenk, of NYU, and titled "Exploiting the Salience Bias in Designing Taxes" but the theme is closer to the title of this post. Here is the abstract: