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Progressive taxation and the intensity and timing of investment

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  • Wong, Kit Pong
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    Abstract

    This paper examines the effect of progressive taxation on a firm's investment intensity and timing decisions using a real options approach. The firm possesses a perpetual option to invest in a project at any instant by incurring an irreversible investment cost at that time. The amount of the irreversible investment cost determines the intensity of investment that augments the value of the project. Tax progression is specified in a particular case of a constant marginal tax rate with an exogenously given tax exemption threshold that makes the average tax rate increase with the tax base. We show that the firm's investment decisions are neutral to tax progression only when the exogenously given tax exemption threshold is sufficiently large. When tax neutrality does not hold, we show that progressive taxation has a perverse effect on investment intensity. Finally, we show that progressive taxation induces the firm to invest earlier as compared to the case under proportional taxation (i.e., in the absence of any tax exemption).

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    Bibliographic Info

    Article provided by Elsevier in its journal Economic Modelling.

    Volume (Year): 28 (2011)
    Issue (Month): 1-2 (January)
    Pages: 100-108

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    Handle: RePEc:eee:ecmode:v:28:y:2011:i:1-2:p:100-108

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    Web page: http://www.elsevier.com/locate/inca/30411

    Related research

    Keywords: Investment intensity Investment timing Progressive taxation Real options;

    References

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    Cited by:
    1. Wacker, Konstantin M., 2013. "On the measurement of foreign direct investment and its relationship to activities of multinational corporations," Working Paper Series 1614, European Central Bank.
    2. Feil, Jan-Henning & Musshoff, Oliver, 2013. "Modelling investment and disinvestment decisions under competition, uncertainty and different market interventions," Economic Modelling, Elsevier, vol. 35(C), pages 443-452.

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