Marginal Revolution University has the following question in its Elasticity unit:
In 1993, then President Clinton passed a law raising income taxes. This tax hike was fully expected: He campaigned on it in 1992. What do you expect happened to executive income in the first year of the tax increases? What about in subsequent years? Hint: Top executives have a lot of power over when they get paid for their work: They can ask for bonuses a bit earlier, or they can cash out their stock options a bit earlier. Literally, this isn’t their “labor supply,” it’s more like their “income supply.”
In the first year income will decrease; in the long run it will remain nearly the same
I don't understand this answer; it made sense to me that the income would increase in the short term, as:
- the practices of assigning salaries and bonuses, etc, would be difficult to adjust in the short term (i.e. more inelastic), so they'd tend to stay the same, but also
- in anticipation of a higher tax burden, CEOs would want to give themself higher bonuses before the tax hike goes into effect, so income in the first year would be high
And it would make sense to me that, once companies adjust for higher taxes, the income of CEOs would tend to decrease to compensate in the long term.
Could anyone point out where my reasoning is falling short? I'm new to economics and haven't really developed my intution on the subject yet. Thanks.