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Could Higher Taxes Increase the Long-Run Demand for Capital?: Theory and Evidence for Chile

Author

Listed:
  • Eduardo M. Engel

    (Yale University, Faculty of Arts & Sciences, Department of Economics (Box 8268))

  • Alvaro Bustos

    (Princeton University, Department of Economics)

  • Alexander Galetovic

    (Universidad de Chili, Center of Applied Economics (CEA))

Abstract

On theoretical grounds alone, there is no a priori reason why higher taxes should reduce the desired capital stock, since a tax increase reduces marginal returns but also increases depreciation and interest payment allowances. Using a panel of Chilean corporations, this paper estimates a long-run demand for capital valid for a general adjustment-cost structure. Changes in the corporate tax rate are found to have no effect on the long run demand for capital. Furthermore, when making investment decisions, firms ignore the marginal rates paid by their stockholders, suggesting the presence of a corporate veil.

Suggested Citation

  • Eduardo M. Engel & Alvaro Bustos & Alexander Galetovic, 2004. "Could Higher Taxes Increase the Long-Run Demand for Capital?: Theory and Evidence for Chile," Yale School of Management Working Papers ysm408, Yale School of Management.
    • Handle: RePEc:ysm:somwrk:ysm408
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    References listed on IDEAS

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    1. Chang-Tai Hsieh & Jonathan A. Parker, 2007. "Taxes and Growth in a Financially Underdeveloped Country: Evidence from the Chilean Investment Boom," Economía Journal, The Latin American and Caribbean Economic Association - LACEA, vol. 0(Fall 2007), pages 1-53, August.
    2. Jorgenson, D.W., 1992. "Tax Reform and the Cost of Capital : An International Comparison," Harvard Institute of Economic Research Working Papers 1621, Harvard - Institute of Economic Research.
    3. Engel, Eduardo M. R. A. & Galetovic, Alexander & Raddatz, Claudio E., 1999. "Taxes and income distribution in Chile: some unpleasant redistributive arithmetic," Journal of Development Economics, Elsevier, vol. 59(1), pages 155-192, June.
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    5. Mervyn A. King, 1974. "Taxation and the Cost of Capital," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 41(1), pages 21-35.
    6. Giuseppe Bertola & Ricardo J. Caballero, 1990. "Kinked Adjustment Costs and Aggregate Dynamics," NBER Chapters, in: NBER Macroeconomics Annual 1990, Volume 5, pages 237-296, National Bureau of Economic Research, Inc.
    7. Caballero, Ricardo J, 1994. "Small Sample Bias and Adjustment Costs," The Review of Economics and Statistics, MIT Press, vol. 76(1), pages 52-58, February.
    8. Alan J. Auerbach, 1983. "Corporate Taxation in the United States," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 14(2), pages 451-514.
    Full references (including those not matched with items on IDEAS)

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    Cited by:

    1. Rodrigo Cerda N. & José Ignacio Llodrá V., 2017. "Impuestos corporativos y capital: veintiséis años de evidencia en empresas," Journal Economía Chilena (The Chilean Economy), Central Bank of Chile, vol. 20(1), pages 050-071, April.
    2. Rodrigo Cerda & Felipe Larraín, 2005. "Inversión Privada e Impuestos Corporativos: Evidencia para Chile," Latin American Journal of Economics-formerly Cuadernos de Economía, Instituto de Economía. Pontificia Universidad Católica de Chile., vol. 42(126), pages 257-281.
    3. Panousi, Vasia, 2009. "Capital Taxation with Entrepreneurial Risk," MPRA Paper 24237, University Library of Munich, Germany.
    4. Cerda, Rodrigo & Fuentes, J. Rodrigo & García, Gonzalo & Llodrá, José Ignacio, 2015. "Understanding Domestic Savings in Chile," IDB Publications (Working Papers) 7254, Inter-American Development Bank.
    5. Pham, Anh, 2020. "Effects of temporary corporate income tax cuts: Evidence from Vietnam," Journal of Development Economics, Elsevier, vol. 146(C).
    6. Ramón E. López & Pablo Gutiérrez Cubillos & Eugenio Figueroa, 2020. "The Tax Paradox and Weak Tax Neutrality," Southern Economic Journal, John Wiley & Sons, vol. 86(3), pages 1150-1169, January.
    7. Cristobal Marshall, 2010. "Is the Tax Credit for SME in Chile an Effective Policy to Boost Investment?," CID Working Papers 46, Center for International Development at Harvard University.
    8. Carlos Garcia & Jorge Restrepo, 2007. "How Effective is Government Spending in a Small Open Economy with Distortionary Taxes," ILADES-UAH Working Papers inv188, Universidad Alberto Hurtado/School of Economics and Business.
    9. Jose De Gregorio, 2004. "Economic Growth in Chile: Evidence, Sources and Prospects," Working Papers Central Bank of Chile 298, Central Bank of Chile.
    10. Rodrigo Cerda & Felipe Larrain, 2010. "Corporate taxes and the demand for labor and capital in developing countries," Small Business Economics, Springer, vol. 34(2), pages 187-201, February.
    11. Yongzheng Liu & Jorge Martinez-Vazquez, 2015. "Growth–Inequality Tradeoff in the Design of Tax Structure: Evidence from a Large Panel of Countries," Pacific Economic Review, Wiley Blackwell, vol. 20(2), pages 323-345, May.
    12. Cai, Jing & Harrison, Ann, 2011. "The value-added tax reform puzzle," Policy Research Working Paper Series 5788, The World Bank.
    13. Rodrigo A. Cerda & Diego Saravia, 2009. "Corporate Tax, Firm Destruction and Capital Stock Accumulation: Evidence From Chilean Plants, 1979-2004," Working Papers Central Bank of Chile 521, Central Bank of Chile.
    14. Chávez, Ricardo & García, Carlos J., 2016. "Reforma tributaria en fases," El Trimestre Económico, Fondo de Cultura Económica, vol. 0(330), pages .275-310, abril-jun.
    15. Rodrigo Cerda & J. Rodrigo Fuentes & Gonzalo García & José Ignacio Llodrá, 2015. "Understanding Domestic Savings in Chile," IDB Publications (Working Papers) 91437, Inter-American Development Bank.

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    More about this item

    Keywords

    Adjustment Costs; Corporate Veil; Demand for Capital; Depreciation Allowances; User Cost of Capital;
    All these keywords.

    JEL classification:

    • H32 - Public Economics - - Fiscal Policies and Behavior of Economic Agents - - - Firm
    • D21 - Microeconomics - - Production and Organizations - - - Firm Behavior: Theory

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