Pirttila and Suoniemi (2014), estimate a model using commodity demands and additional administrative data to explain hours worked for Finland. Their results also reject weak separability, although they find statistically significant relationships between consumption and hours worked for a smaller number of consumption categories than Crawford et al. (2010). Expenditure on housing and on books and magazines are found to be negatively related to hours worked, while office meals and car use are positively related to hours worked.<sup>22</sup> They also examine the use of public services and find that the use of childcare is positively related to hours of work.

While these results suggest an efficiency case for differential taxation, the practical implementation of such an optimal rate structure is challenging. Crawford et al. (2010), for example, emphasize that optimal tax rates will depend not just on the sign of demand responses, but also on their magnitudes as well as on cross-price effects. They conclude that “the limitations and uncertainties of both the theory and empirical work are such that, at least as yet, they provide little firm basis for policy prescription” (p350). They further note that, given the small size of their complementarity estimates, the social gain from implementing differential rates is likely to be small, and these would need to be weighed against the administrative burden (see section 4.4) of implementing a highly differentiated rate structure.

The Mirrlees Review (Mirrlees et al., 2011) to which Crawford et al. (2010) contribute, consequently recommends the adoption of a uniform VAT rate structure for the United Kingdom, with the possible exception of childcare to which a zero rate could be applied.<sup>23</sup> More generally, Sørensen (2007, 2010) argues that a lack of elasticity information, combined with administrative and political economy considerations, suggests that “uniform taxation should be the main guideline for indirect taxation” (Sørensen, 2010; p241). Nevertheless, he also adds that, following the recent home production literature, there is a good case for applying relatively low indirect tax rates to substitutes for home production activities .

In summary, consideration of the above literature provides support for a uniform VAT rate in two ways. First, and most clearly, the optimal indirect tax literature provides the strong message that rate differentiation should not be used to achieve distributional goals when other more direct instruments are available. Second, while the optimal indirect tax literature does provide a potential efficiency rationale for differentiated rates, such an approach is not practically implementable due to the extremely high data requirements. Therefore, from an efficiency perspective, we fall back on a single rate structure to avoid distorting consumption decisions (while also reaping the administrative benefits of a single-rate structure, as discussed subsequently in this paper). The one potential exception on efficiency grounds is regarding substitutes for home production activities – although, as discussed below, this also has practical limitations.

22 Additionally, they find capital income to be significantly negatively related to hours of work. Gordon and Kopczuk (2014) make a similar finding based on United States data. Both papers argue therefore that capital income should be taxed. They also argue that current direct tax concessions (e.g. mortgage interest deductibility) for housing should be removed.

23 Bastani et al. (2015) argue that Mirrlees et al. (2011) are effectively considering a situation where all goods are separable from leisure with the exception of one good needed for work. They develop a model to show that in such a case there remains an equity argument to apply differential tax rates to the goods that are separable from leisure. The rationale is that, because a family needs to pay for childcare in order to work, a high ability “mimicking” family (that works fewer hours than a non-mimicking family) actually has higher disposable income than a non-mimicking family earning the same gross income because they need to pay for less childcare. Their higher disposable income creates an equity-based rationale for taxing goods consumed proportionately more by higher income households. If childcare is publicly provided, this rationale disappears and uniform taxation is once again optimal.

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