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Are Investment Incentives Blunted by Changes in Prices of Capital Goods?

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  • Kevin A. Hassett
  • R. Glenn Hubbard

Abstract

Recent research on business investment decisions suggests that real investment in plant and equipment is quite sensitive to changes in the user cost of capital, pointing to the possibility that long‐run changes in tax policy may have a significant impact on an economy's capital stock. Indeed, many countries have at times adopted investment tax incentives to stimulate investment. The prevalence of investment incentives suggests that local policy‐makers believe these are effective in increasing investment at a reasonable cost in terms of lost revenue. In this paper, we explore this issue by estimating the extent to which countries are price‐takers in the world market for capital goods. We find that most countries – even the United States – face a highly elastic supply of capital goods, suggesting that the effect of investment incentives on the price of investment goods is small. Hence effects of long‐run changes in investment tax policy are likely to materialize in real investment rather than simply being dissipated in changes in capital‐goods prices.

Suggested Citation

  • Kevin A. Hassett & R. Glenn Hubbard, 1998. "Are Investment Incentives Blunted by Changes in Prices of Capital Goods?," International Finance, Wiley Blackwell, vol. 1(1), pages 103-125, October.
    • Handle: RePEc:bla:intfin:v:1:y:1998:i:1:p:103-125
    DOI: 10.1111/1468-2362.00006
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    1. Jason Cummins & Trevor Harris & Kevin Hassett, 1995. "Accounting Standards, Information Flow, and Firm Investment Behavior," NBER Chapters, in: The Effects of Taxation on Multinational Corporations, pages 181-224, National Bureau of Economic Research, Inc.
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    3. Caballero, Ricardo J., 1999. "Aggregate investment," Handbook of Macroeconomics, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 12, pages 813-862, Elsevier.
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    2. Gregory E. Givens & Robert R. Reed, 2018. "Monetary Policy and Investment Dynamics: Evidence from Disaggregate Data," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 50(8), pages 1851-1878, December.
    3. Karl Whelan, 1999. "Tax incentives, material inputs, and the supply curve for capital equipment," Open Access publications 10197/248, School of Economics, University College Dublin.
    4. Zihui Xu & Zifan Chen & Lixing Deng & Yan Yu, 2022. "The Impact of Mandatory Deleveraging on Corporate Tax Avoidance: Evidence from a Quasi‐experiment in China," Australian Accounting Review, CPA Australia, vol. 32(3), pages 352-366, September.
    5. Hanlon, Michelle & Heitzman, Shane, 2010. "A review of tax research," Journal of Accounting and Economics, Elsevier, vol. 50(2-3), pages 127-178, December.
    6. Johannes Fedderke, 2004. "Investment in Fixed Capital Stock: Testing for the Impact of Sectoral and Systemic Uncertainty," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 66(2), pages 165-187, May.
    7. Zee, Howell H. & Stotsky, Janet G. & Ley, Eduardo, 2002. "Tax Incentives for Business Investment: A Primer for Policy Makers in Developing Countries," World Development, Elsevier, vol. 30(9), pages 1497-1516, September.
    8. Robert S. Chirinko & Steven M. Fazzari & Andrew P. Meyer, 2004. "That Elusive Elasticity: A Long-Panel Approach to Estimating the Capital-Labor Substitution Elasticity," CESifo Working Paper Series 1240, CESifo.
    9. Robert S. Chirinko & Steven M. Fazzari & Andrew P. Meyer, 2002. "That Elusive Elasticity: A Long-Panel Approach To Estimating The Price Sensitivity Of Business Capital," 10th International Conference on Panel Data, Berlin, July 5-6, 2002 B3-1, International Conferences on Panel Data.
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