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Corporate Financial Policy, Taxes, and Uncertainty: An Integration

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  • Alan J. Auerbach
  • Mervyn A. King

Abstract

In this paper, we present a simple general equilibrium model of the portfolio behavior of households and institutions, paying particular attention to the influence of differences in tax rates and attitudes toward risk. Under the plausible assumptions that households are more risk averse than institutions and possess a greater relative "tax preference" for equity versus debt, we are able to characterize the equilibria which may result when debt is subject to bankruptcy risk. Among the issues which we study are the effects of tax rate changes, changes in risk, and changes in firm leverage on the relative asset holdings of the two types of investor and the rates of return earned on equity and debt. Numerical simulations provide additional understanding of the model's characteristics.

Suggested Citation

  • Alan J. Auerbach & Mervyn A. King, 1979. "Corporate Financial Policy, Taxes, and Uncertainty: An Integration," NBER Working Papers 0324, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:0324
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    References listed on IDEAS

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    1. William F. Sharpe, 1964. "Capital Asset Prices: A Theory Of Market Equilibrium Under Conditions Of Risk," Journal of Finance, American Finance Association, vol. 19(3), pages 425-442, September.
    2. Miller, Merton H, 1977. "Debt and Taxes," Journal of Finance, American Finance Association, vol. 32(2), pages 261-275, May.
    3. Alan J. Auerbach, 1979. "Wealth Maximization and the Cost of Capital," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 93(3), pages 433-446.
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    Cited by:

    1. Roger H. Gordon, 1981. "Taxation of Corporate Capital Income: Tax Revenues vs. Tax Distortions," NBER Working Papers 0687, National Bureau of Economic Research, Inc.
    2. Roger H. Gordon & Burton G. Malkiel, 1980. "Taxation and Corporation Finance," NBER Working Papers 0576, National Bureau of Economic Research, Inc.
    3. Alan J. Auerbach & Mervyn A. King, 1983. "Taxation, Portfolio Choice, and Debt-Equity Ratios: A General Equilibrium Model," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 98(4), pages 587-609.
    4. Roger H. Gordon, 1984. "Inflation, Taxation, and Corporate Behavior," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 99(2), pages 313-327.

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