How should income be redistributed under a given government budget? We address this question in an incomplete markets economy calibrated to the U.S. income distribution. Holding government budgets initially identical across policies, we find that nonlinear tax-and-transfer policy distorts labor and capital more than the conventional linear policies along the transition path. Consequently, aggregate output in the new steady state relative to laissez-faire falls by 6.1% under a universal basic income, 20% under a negative income tax, and 27.4% under the nonlinear policy. When policy rules are held fixed over time, the nonlinear policy can deliver a Pareto improvement, conditional on an 8.72% tax deficit relative to GDP.
