Taxes and the Global Allocation of Capital David Backus, Espen Henriksen, and Kjetil Storesletten Carnegie-Rochester | April 20, 2007 This version: April 19, 2007 Backus, Henriksen, and Storesletten () Capital and Taxes 1 / 19
Capital and taxes The Economist , February 2007 With capital mobile and economies increasingly interlinked, money will continue to move to places where costs, including taxes, are low. Backus, Henriksen, and Storesletten () Capital and Taxes 1 / 19
UK Financial Times , April 2007 British-based multinationals would be allowed to repatriate billions of foreign profits tax-free under proposals being drawn up by Britain’s Treasury to improve the competitiveness of the country’s tax system. ... Business groups say the change would help the UK attract more corporate headquarters and boost investment. Backus, Henriksen, and Storesletten () Capital and Taxes 2 / 19
EU Wall Street Journal , April 17, 2007 Europe’s major economies are competing with one another to cut corporate taxes as they fight to attract and keep investment, fueling a trend that has taken Europe’s corporate tax rates below those of other regions. Backus, Henriksen, and Storesletten () Capital and Taxes 3 / 19
France The Economist , February 2007 Presidential candidate Segolene Royal hinted at the idea of “taxing capital more than work”. Backus, Henriksen, and Storesletten () Capital and Taxes 4 / 19
Lucas “Supply-side economics,” 1990 I now believe that neither capital gains nor any of the income from capital should be taxed at all. [But my] personal experience has led me to a certain suspicion of definitive answers to tax questions. Backus, Henriksen, and Storesletten () Capital and Taxes 5 / 19
Our question Can corporate taxes explain some of the cross-country differences in capital-output ratios? Answer: probably. Backus, Henriksen, and Storesletten () Capital and Taxes 6 / 19
Our question Can corporate taxes explain some of the cross-country differences in capital-output ratios? Answer: probably. Backus, Henriksen, and Storesletten () Capital and Taxes 6 / 19
Outline Capital and taxes in theory Evidence on capital-output ratios Evidence on corporate taxes Evidence on capital and taxes Open questions Backus, Henriksen, and Storesletten () Capital and Taxes 7 / 19
Theory Premise Markets equate after-tax marginal products of capital With CES production, mpk depends on capital-output ratio Countries with high tax rates have low capital-output ratios Backus, Henriksen, and Storesletten () Capital and Taxes 8 / 19
Theory Theoretical example One-good world, many countries i Equate marginal products of capital across countries 1 + r t − 1 = 1 + (1 − τ it ) [ f 1 ( k it , z it n it ) − δ ] . With CES production function ω i ( k it / y it ) − 1 /σ f 1 ( k it , z it n it ) = ⇒ log k it / y it ≈ β 0 + β t + β i + σ log(1 − τ it ) Backus, Henriksen, and Storesletten () Capital and Taxes 9 / 19
Evidence on Capital Capital-output ratios 4.5 4 Capital−Output Ratio 3.5 3 2.5 2 1980 1985 1990 1995 2000 2005 au/pt at/se be/uk ca/us ch es fi fr ie it is jp no nl nz Backus, Henriksen, and Storesletten () Capital and Taxes 10 / 19
Evidence on Capital Investment-output ratios .35 .3 .25 .2 .15 1980 1985 1990 1995 2000 2005 Backus, Henriksen, and Storesletten () Capital and Taxes 11 / 19
Evidence on Taxes Corporate tax rates (statutory) .6 .5 .4 .3 .2 .1 1980 1985 1990 1995 2000 2005 Backus, Henriksen, and Storesletten () Capital and Taxes 12 / 19
Evidence on Taxes Corporate tax rates (effective marginal) .5 .4 .3 .2 .1 0 1980 1985 1990 1995 2000 2005 Backus, Henriksen, and Storesletten () Capital and Taxes 13 / 19
Evidence on Taxes Corporate tax rates (tax revenue) 15 10 Percent of GDP 5 0 1980 1985 1990 1995 2000 2005 Backus, Henriksen, and Storesletten () Capital and Taxes 14 / 19
Evidence on Capital and Taxes Capital and taxes (effective marginal tax rate) 4.5 4 Capita−Output Ratio 3.5 3 2.5 2 0 .1 .2 .3 .4 .5 Effective Marginal Tax Rate AU AT BE CA CH DE ES FI FR IE IT JP NL NO SE Backus, Henriksen, and Storesletten () Capital and Taxes 15 / 19
Evidence on Capital and Taxes Capital and taxes (business capital) 2.5 2 Capita−Output Ratio 1.5 1 .5 0 .1 .2 .3 .4 .5 Effective Marginal Tax Rate AU AT BE CA CH DE ES FI FR IE IT JP NL NO SE Backus, Henriksen, and Storesletten () Capital and Taxes 16 / 19
Evidence on Capital and Taxes Capital and taxes (corp tax revenue) 4.5 4 Capita−Output Ratio 3.5 3 2.5 2 0 .05 .1 .15 Corporate Tax Revenue (Fraction of GDP) AU AT BE CA CH DE ES FI FR IE IT JP NL NO SE Backus, Henriksen, and Storesletten () Capital and Taxes 17 / 19
Evidence on Capital and Taxes Panel data regressions Regressions based on panel of countries Fixed country effects (may) reflect differences in production functions High tax revenue associated with low capital-output ratio Some role for revenue from wealth taxes — and maybe distributions Evidence stronger since 1990 (greater capital mobility?) Backus, Henriksen, and Storesletten () Capital and Taxes 18 / 19
Last thoughts Are capital-output ratios related to corporate taxes? ◮ Yes, if we measure them with tax revenue Open questions ◮ Why are cross-country differences in capital-output ratios so large? ◮ Is there direct evidence on pre-tax rates of return? ◮ Could impact of taxes be wildly different from our example? ⋆ International activities blur impact of local taxes ⋆ Taxes on households may play a role ⋆ Could taxes be less distortionary than we think? Backus, Henriksen, and Storesletten () Capital and Taxes 19 / 19
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