IDEAS home Printed from https://ideas.repec.org/p/ags/pugtwp/331042.html

Developing a Cost of Capital Module for Computable General Equilibrium Modelling

Author

Listed:
  • Winston, Ashley

Abstract

Computable general equilibrium (CGE) models are ideal tools for policy analysis. However, work conducted by the Centre of Policy Studies on recent reforms to business taxation policy in Australia has highlighted the limitations of CGE models in this specific area. This paper outlines the ongoing development of a more detailed and theoretically rigorous cost of capital module for a CGE model. Following King and Benge, we develop a model in which the firm maximises the value of its shareholder equity, taking account of: various company and personal income tax regimes; various capital-gains taxes regimes (including a treatment of realisation-based capital-gains taxation); depreciation allowances; investment allowances; and the costs of issuing various securities. The model is developed in two stages: Firstly, we develop an expression for the value of the firm to its shareholders. This approach assumes a given level of before-tax profit and seeks to determine how changes in various tax rates and allowances might impact on the firm’s value and, thus, the rate of return available to those holding its equity. With the before-tax income streams fixed, movements in the value of the firm and the after-tax income flows tell us something about this rate of return. As well as gaining some insights into the effect of policy changes on the value of equity, we can readily infer from this the effect of policy adjustments on the willingness of investors to provide funds as stakeholders. Secondly, we construct and solve a constrained optimisation problem for all of the firm’s choice variables, using the expression for the value of the firm as the objective function. We develop a set of expressions to constrain the firm’s ability to maximise the after-tax return on equity to its shareholders, and solve for the cost of capital and, thus, the level of investment, for an optimising firm. This approach enables us to generate a time path for investment and the outcomes of the firm’s other choice variables (that is, a complete solution to the “producer problem”). In this framework, we can see how taxation can influence both the choices the firm makes and the outcomes it can expect given those choices. By embedding this in a dynamic CGE model like MONASH, we can simulate the effects of tax changes on the user-cost of capital and thus on investment.

Suggested Citation

  • Winston, Ashley, 2002. "Developing a Cost of Capital Module for Computable General Equilibrium Modelling," Conference papers 331042, Purdue University, Center for Global Trade Analysis, Global Trade Analysis Project.
    • Handle: RePEc:ags:pugtwp:331042
    as

    Download full text from publisher

    File URL: https://ageconsearch.umn.edu/record/331042/files/932.pdf
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Parent, Daniel, 2000. "Industry-Specific Capital and the Wage Profile: Evidence from the National Longitudinal Survey of Youth and the Panel Study of Income Dynamics," Journal of Labor Economics, University of Chicago Press, vol. 18(2), pages 306-323, April.
    2. Jacob A. Mincer, 1974. "Introduction to "Schooling, Experience, and Earnings"," NBER Chapters, in: Schooling, Experience, and Earnings, pages 1-4, National Bureau of Economic Research, Inc.
    3. Gibbons, Robert & Katz, Lawrence F, 1991. "Layoffs and Lemons," Journal of Labor Economics, University of Chicago Press, vol. 9(4), pages 351-380, October.
    4. James Heckman, 2013. "Sample selection bias as a specification error," Applied Econometrics, Russian Presidential Academy of National Economy and Public Administration (RANEPA), vol. 31(3), pages 129-137.
    5. Jacob A. Mincer, 1974. "Schooling, Experience, and Earnings," NBER Books, National Bureau of Economic Research, Inc, number minc74-1, January.
    6. Neal, Derek, 1995. "Industry-Specific Human Capital: Evidence from Displaced Workers," Journal of Labor Economics, University of Chicago Press, vol. 13(4), pages 653-677, October.
    7. Weinberg, Bruce A, 2001. "Long-Term Wage Fluctuations with Industry-Specific Human Capital," Journal of Labor Economics, University of Chicago Press, vol. 19(1), pages 231-264, January.
    8. Joseph G. Altonji & Robert A. Shakotko, 1987. "Do Wages Rise with Job Seniority?," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 54(3), pages 437-459.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Carl Sanders & Christopher Taber, 2012. "Life-Cycle Wage Growth and Heterogeneous Human Capital," Annual Review of Economics, Annual Reviews, vol. 4(1), pages 399-425, July.
    2. Christina Gathmann & Uta Schönberg, 2010. "How General Is Human Capital? A Task-Based Approach," Journal of Labor Economics, University of Chicago Press, vol. 28(1), pages 1-49, January.
    3. Ayaka Nakamura, 2019. "The Effect of Employer Tenure on Wages in Japan," OSIPP Discussion Paper 19E007, Osaka School of International Public Policy, Osaka University.
    4. Parent, Daniel, 2002. "Matching, human capital, and the covariance structure of earnings," Labour Economics, Elsevier, vol. 9(3), pages 375-404, July.
    5. repec:eee:labchp:v:3:y:1999:i:pb:p:2439-2483 is not listed on IDEAS
    6. Robert Gibbons & Michael Waldman, 2006. "Enriching a Theory of Wage and Promotion Dynamics inside Firms," Journal of Labor Economics, University of Chicago Press, vol. 24(1), pages 59-108, January.
    7. Theodoropoulos, Nikos & Singleton, Carl, 2026. "Returns to Tenure: A Critical Assessment of the Evidence and Interpretation," IZA Discussion Papers 18705, IZA Network @ LISER.
    8. Garcia-Louzao, Jose & Hospido, Laura & Ruggieri, Alessandro, 2023. "Dual returns to experience," Labour Economics, Elsevier, vol. 80(C).
    9. Maxim Poletaev & Chris Robinson, 2008. "Human Capital Specificity: Evidence from the Dictionary of Occupational Titles and Displaced Worker Surveys, 1984-2000," Journal of Labor Economics, University of Chicago Press, vol. 26(3), pages 387-420, July.
    10. Kritkorn Nawakitphaitoon, 2014. "Occupational Human Capital and Wages: The Role of Skills Transferability Across Occupations," Journal of Labor Research, Springer, vol. 35(1), pages 63-87, March.
    11. Keongtae Kim & Sunil Mithas & Jonathan Whitaker & Prasanto K. Roy, 2014. "Research Note —Industry-Specific Human Capital and Wages: Evidence from the Business Process Outsourcing Industry," Information Systems Research, INFORMS, vol. 25(3), pages 618-638, September.
    12. Maria Esther Oswald-Egg & Ursula Renold, 2019. "No Experience, No Employment: The Effect of Vocational Education and Training Work Experience on Labour Market Outcomes after Higher Education," KOF Working papers 19-469, KOF Swiss Economic Institute, ETH Zurich.
    13. Mattia Filomena, 2021. "Unemployment Scarring Effects: A Symposium On Empirical Literature," Working Papers 453, Universita' Politecnica delle Marche (I), Dipartimento di Scienze Economiche e Sociali.
    14. Korpi, Tomas & Mertens, Antje, 2002. "Training systems and labor mobility: A comparison between Germany and Sweden," SFB 373 Discussion Papers 2002,19, Humboldt University of Berlin, Interdisciplinary Research Project 373: Quantification and Simulation of Economic Processes.
    15. Roland A. Amann & Tobias J. Klein, 2012. "Returns to type or tenure?," Journal of the Royal Statistical Society Series A, Royal Statistical Society, vol. 175(1), pages 153-166, January.
    16. Jeffrey J. Yankow, 2003. "Migration, Job Change, and Wage Growth: A New Perspective on the Pecuniary Return to Geographic Mobility," Journal of Regional Science, Wiley Blackwell, vol. 43(3), pages 483-516, August.
    17. Fossen, Frank M. & Büttner, Tobias J.M., 2013. "The returns to education for opportunity entrepreneurs, necessity entrepreneurs, and paid employees," Economics of Education Review, Elsevier, vol. 37(C), pages 66-84.
    18. Ayaka Nakamura, 2024. "The effect of employer tenure on wages in Japan," The Japanese Economic Review, Springer, vol. 75(1), pages 181-214, January.
    19. Gathmann, Christina & Schönberg, Uta, 2006. "How General Is Specific Human Capital?," IZA Discussion Papers 2485, IZA Network @ LISER.
    20. Herz, Benedikt, 2017. "Specific Human Capital and Wait Unemployment," MPRA Paper 76777, University Library of Munich, Germany.
    21. Uta Schönberg, 2007. "Wage Growth Due to Human Capital Accumulation and Job Search: A Comparison between the United States and Germany," ILR Review, Cornell University, ILR School, vol. 60(4), pages 562-586, July.

    More about this item

    Keywords

    ;
    ;

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:ags:pugtwp:331042. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: AgEcon Search (email available below). General contact details of provider: https://edirc.repec.org/data/gtpurus.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.