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Profit Taxation, Innovation and the Financing of Heterogeneous Firms

  • Keuschnigg, Christian
  • Ribi, Evelyn

Credit constraints are more frequent among growth companies with large investment opportunities. For the same reason, profit taxes may harm innovative firms more than standard ones. This paper develops a model of heterogeneous firms where an endogenous share opts for innovation and faces credit constraints in the subsequent expansion phase. We emphasize four results: (i) R&D subsidies not only encourage innovation but also relax finance constraints and help innovative firms to exploit investment opportunities to a larger extent. (ii) Taxes which are neutral in a neoclassical world, still restrict expansion investment of constrained firms by reducing free cash-flow and thereby discourage innovation. (iii) A revenue neutral increase in profit taxes to finance larger R&D subsidies redistributes towards innovative firms and boosts aggregate productivity and welfare. (iv) A revenue neutral tax cut cum base broadening policy similarly boosts innovation and welfare.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 7626.

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Date of creation: Jan 2010
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Handle: RePEc:cpr:ceprdp:7626
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  12. Haramillo, Fidel & Schiantarelli, Fabio & Weiss, Andrew, 1996. "Capital market imperfections before and after financial liberalization: An Euler equation approach to panel data for Ecuadorian firms," Journal of Development Economics, Elsevier, vol. 51(2), pages 367-386, December.
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  27. Marko Köthenbürger & Michael Stimmelmayr, 2009. "Corporate Taxation and Corporate Governance," CESifo Working Paper Series 2881, CESifo Group Munich.
  28. Elisa Ughetto, 2009. "Industrial districts and financial constraints to innovation," International Review of Applied Economics, Taylor & Francis Journals, vol. 23(5), pages 597-624.
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