Taxation, Automation Capital, and the Functional Income Distribution

The functional income distribution in the US and most OECD countries has been characterized by an increasing capital income share and a declining wage share over the last decades. We present new evidence for the US economy that this fact is not only explained by technical change and globalization, but also by the dynamics of capital and labor income taxation, automation capital, and population growth. In the empirical analysis, we find indications for cointegrating equations for the 1974-2008 period. Permanent effects on factor shares emanate from labor (relative to capital) tax shocks. Changes in relative factor taxation also permanently affect the use of robots. Variance decompositions reveal that taxing accounts for up to 22% and up to 35% of observed changes in the two income shares and in automation capital, respectively. In a second step, we present a standard neoclassical growth model augmented by automation capital and capital adjustment costs that is able to replicate the dynamics of the observed functional income distribution in the US during the 1965-2015 period. In particular, we demonstrate that the fall in the wage share would have been significantly smaller if labor and capital income tax rates had remained at their respective level of the 1960s.