The Impact of Taxes and Wasteful Government Spending on Giving

Abstract

We examine how taxes impact giving to charity and how this relationship is affected by the degree of wasteful government spending. In our model, government collects a flat-rate tax on income net of charitable donations and redistributes part of the tax revenue. The rest of the tax revenue is wasted. Consistent with the previous literature, the model predicts that a higher tax rate increases charitable donations. Surprisingly, the model shows that a higher degree of waste decreases donations when the elasticity of marginal utility is high enough. We test the model’s predictions using a laboratory experiment with actual donations to charities. We find that the tax rate has a weak and insignificant effect on giving. The degree of waste, however, has a large, negative and highly significant effect on giving, with the relationship being moderated by the elasticity of marginal utility. We discuss potential policy implications of our findings.