Prospect Theory and Tax Evasion: A Reconsideration of the Yitzhaki Puzzle

No 7760, IZA Discussion Papers from Institute of Labor Economics (IZA)

Abstract: The standard expected utility model of tax evasion predicts that evasion is decreasing in the marginal tax rate (the Yitzhaki puzzle). The existing literature disagrees on whether prospect theory overturns the puzzle. We disentangle four distinct elements of prospect theory and find loss aversion and probability weighting to be redundant in respect of the puzzle. Prospect theory fails to reverse the puzzle for various classes of endogenous specification of the reference level. These classes include, as special cases, the most common specifications in the literature. New specifications of the reference level are needed, we conclude.

Keywords: prospect theory; tax evasion; Yitzhaki puzzle; stigma; diminishing sensitivity; reference dependence; endogenous audit probability; endogenous reference level (search for similar items in EconPapers)
JEL-codes: D81 H26 K42 (search for similar items in EconPapers)
Pages: 24 pages
Date: 2013-11
New Economics Papers: this item is included in nep-iue, nep-pbe, nep-pub and nep-upt
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (7)

Published - published in: Theory and Decision, 2017, 82 (4), 543-565

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Related works:
Journal Article: Prospect theory and tax evasion: a reconsideration of the Yitzhaki puzzle (2017)
Working Paper: Prospect theory and tax evasion: a reconsideration of the Yitzhaki puzzle (2014)
Working Paper: Prospect theory and tax evasion: a reconsideration of the Yitzhaki Puzzle (2013)
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