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Share valuation and corporate equity policy

  • Auerbach, Alan J.

In recent years many contributions have appeared which examine the effects of corporate and personal taxation on firm financial policy. However, there has yet to appear an adequate explanation of why corporations continue to distribute dividends despite their disadvantageous tax treatment. We study this problem anew, in the context of an overlapping generations growth model with corporations financed by equity. Among our findings are: (1) capital owned by corporations may well be undervalued, even in the long run; (2) as a result of such undervaluation, firms may find it in the best interest of their stockholders to distribute dividends; and (3) an increase in the tax on distributions, while depressing the return to personal saving, may lead to an increase in the capital intensity of the economy. We also consider the criterion firms will use in evaluating new investment projects.

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Article provided by Elsevier in its journal Journal of Public Economics.

Volume (Year): 11 (1979)
Issue (Month): 3 (June)
Pages: 291-305

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Handle: RePEc:eee:pubeco:v:11:y:1979:i:3:p:291-305
Contact details of provider: Web page: http://www.elsevier.com/locate/inca/505578

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  1. Alan J. Auerbach, 1980. "Wealth Maximization and the Cost of Capital," NBER Working Papers 0254, National Bureau of Economic Research, Inc.
  2. Stapleton, R C, 1972. "Taxes, the Cost of Capital and the Theory of Investment," Economic Journal, Royal Economic Society, vol. 82(328), pages 1273-92, December.
  3. Martin Feldstein & Lawrence Summers, 1977. "Is the Rate of Profit Falling?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 8(1), pages 211-228.
  4. Diamond, Peter A., 1970. "Incidence of an interest income tax," Journal of Economic Theory, Elsevier, vol. 2(3), pages 211-224, September.
  5. Tobin, James, 1969. "A General Equilibrium Approach to Monetary Theory," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 1(1), pages 15-29, February.
  6. Flemming, J. S., 1976. "A reappraisal of the corporation income tax," Journal of Public Economics, Elsevier, vol. 6(1-2), pages 163-169.
  7. Feldstein, Martin S & Green, Jerry & Sheshinski, Eytan, 1979. "Corporate Financial Policy and Taxation in a Growing Economy," The Quarterly Journal of Economics, MIT Press, vol. 93(3), pages 411-32, August.
  8. King, Mervyn A, 1974. "Taxation and the Cost of Capital," Review of Economic Studies, Wiley Blackwell, vol. 41(1), pages 21-35, January.
  9. Marc Nerlove, 1967. "Recent Empirical Studies of the CES and Related Production Functions," NBER Chapters, in: The Theory and Empirical Analysis of Production, pages 55-136 National Bureau of Economic Research, Inc.
  10. Feldstein, Martin S, 1970. "Inflation, Specification Bias, and the Impact of Interest Rates," Journal of Political Economy, University of Chicago Press, vol. 78(6), pages 1325-39, Nov.-Dec..
  11. Feldstein, Martin S, 1974. "Incidence of a Capital Income Tax in a Growing Economy with Variable Savings Rates," Review of Economic Studies, Wiley Blackwell, vol. 41(4), pages 505-13, October.
  12. Stiglitz, Joseph E., 1976. "The corporation tax," Journal of Public Economics, Elsevier, vol. 5(3-4), pages 303-311.
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