Corporate Taxation and Bank Outcomes: Evidence from U.S. State Taxes - - PowerPoint PPT Presentation

Corporate Taxation and Bank Outcomes: Evidence from U.S. State Taxes

John Gallemore – University of Chicago Michael Mayberry – University of Florida Jaron Wilde – University of Iowa

Gallemore, Mayberry, Wilde

Motivation

• Banks are important

– Key provider of capital and liquidity to businesses and individuals – Highly connected to the rest of the economy

• Taxes are important
• We know little about the effect of taxes on

banks

– Hanlon and Heitzman (2010)

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Our study

• Our objective

– Provide some empirical evidence on the effect of taxation on banks

• Focus on a particular type of taxation

– Corporate income taxation

• Take a holistic approach by examining

multiple bank outcomes

– Lending, leverage, liquidity, risk-taking

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Research design

• Setting

– U.S. state corporate income taxation

• Heider and Ljungqvist 2015; Ljungqvist, Zhang, Zuo 2017

– Single-state U.S. commercial banks

• This setting comes with advantages and disadvantages
• Basic design: Changes in bank outcomes = f(changes in tax rates)
• Identification challenge: Tax rate changes are not random

– Bank fixed effects for time-invariant differences across banks (& states) – State-level macroeconomic controls (for drivers of tax rate changes) – Account for contemporaneous changes in state-level banking supervision / regulation – Others: Bank-level time-varying controls, year-quarter fixed effects

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Outcome #1: Lending

• Why we should care

– Bank lending is a critical source of capital for businesses and individuals

• Why taxes might or might not matter

– Income taxation reduces after-tax operating cash flows, which in turn reduces the funds available for lending – Alternatively, lenders could change lending in response to a tax rate change to maintain certain levels of profitability

• Measures

– Traditional measure (captures term loans / drawn down portion of credit lines) – Measure that additionally captures undrawn portion of credit lines

• Findings

– No effect on average – Different effect depending on state of macroeconomy: income taxation is negatively (positively) associated with lending when macroeconomic conditions are poor (good) – Weak evidence that relation is positive for more profitable banks

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Outcome #2: Leverage

• Why we should care

– Some suggest that bank leverage is associated with susceptibility to financial crises

• Why taxes might or might not matter

– Prior research has shown positive leverage-tax association in non-bank setting – However, unlike non-banks, leverage is fundamental to bank business models – Furthermore, bank leverage is regulated (e.g., capital requirements)

• Measures: Overall leverage, deposit vs. non-deposit funding, insured vs.

uninsured deposits

• Findings

– No effect on average – Better capitalized banks are more likely to exhibit a positive association – Differential effects based on state of macroeconomy (positive in good times, weaker in poor times) – Most of the action comes from non-deposit funding (possible reason: higher cost)

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Outcome #3: Liquidity

• Why we should care

– Bank illiquidity played big role in 2007-09 financial crisis – Subsequent reforms have specifically targeted liquidity risk

• Why taxes might or might not matter

– Banks manage liquidity risk through a combination of liquid asset holdings and operating cash flows – Income taxation diverts cash flows from the bank to the taxing authority, which may lead the bank to hold more liquid assets

• Measure

– Holdings of cash and other liquid assets (e.g., government bonds)

• Findings

– No effect on average – Positive (negative) effect during poor (good) macroeconomic conditions

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Outcome #4: Risk-taking

• Why we should care

– Bank risk-taking played a critical role in the recent financial crisis

• Why taxes might or might not matter

– Prior research shows taxation shapes risk-taking in non-financial institutions – However, bank risk-taking is heavily regulated / supervised

• Measures

– Regulatory risk-weighted assets

• Findings

– No effect on average – Positive (negative) effect during good (poor) macroeconomic conditions – Some differences in effect based on bank size and profitability

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Additional tests and issues

• Charter-level tests: Federal vs. state

– Federally chartered banks are not subject to state banking regulation – Similar results in subsample of federally chartered banks

• Timing tests

– No anticipatory effect with lending or liquidity – Some anticipatory effect with leverage and risk-taking

• Other tests

– Removal of states without a tax rate change – Different minimum size thresholds

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Summary

• We find that income taxation has nuanced effects on banks

– Negative effects (lower lending, greater liquid assets) during crisis periods – Positively associated with non-deposit leverage during normal periods

• Contributions

– Potential policy implications – Extends prior research on income taxation effects to financial institutions

• We see our paper as a starting point for additional research on the

effect of taxation on banks

– Other financial institutions – Other taxes – Interaction with other forces (e.g., regulation)

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Thank you!