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Taxation of Corporate Capital Income: Tax Revenues vs. Tax Distortions

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  • Roger H. Gordon

Abstract

Since the average tax rate on corporate capital income is very high, economists often conclude that taxes have caused a substantial fall in corporate investment, a movement of capital into noncorporate uses, and a fall in personal savings. The combined efficiency costs of these distortions are believed to be very important. This paper attempts to show that when uncertainty and inflation are taken into account explicitly, taxation of corporate income leaves corporate investment incentives basically unaffected, in spite of the sizable tax revenues collected. In addition, in some plausible situations, such taxes can result in a gain in efficiency. The explanation for these surprising results is that the government, by taxing capital income, absorbs a certain fraction of both the expected return and the uncertainty in the return. While investors as a result receive a lower expected return, they also bear less risk when they invest, and these two effects are largely offsetting.

Suggested Citation

  • Roger H. Gordon, 1981. "Taxation of Corporate Capital Income: Tax Revenues vs. Tax Distortions," NBER Working Papers 0687, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:0687
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    1. Charles L. Ballard & Don Fullerton & John B. Shoven & John Whalley, 1985. "General Equilibrium Analysis of Tax Policies," NBER Chapters, in: A General Equilibrium Model for Tax Policy Evaluation, pages 6-24, National Bureau of Economic Research, Inc.
    2. Don Fullerton & Roger H. Gordon, 1983. "A Reexamination of Tax Distortions in General Equilibrium Models," NBER Chapters, in: Behavioral Simulation Methods in Tax Policy Analysis, pages 369-426, National Bureau of Economic Research, Inc.
    3. Arnold C. Harberger, 1962. "The Incidence of the Corporation Income Tax," Journal of Political Economy, University of Chicago Press, vol. 70, pages 215-215.
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    6. Shoven, John B. & Whalley, John, 1972. "A general equilibrium calculation of the effects of differential taxation of income from capital in the U.S," Journal of Public Economics, Elsevier, vol. 1(3-4), pages 281-321, November.
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    8. Auerbach, Alan J, 1979. "Inflation and the Choice of Asset Life," Journal of Political Economy, University of Chicago Press, vol. 87(3), pages 621-638, June.
    9. Martin Feldstein & Lawrence Summers, 1983. "Inflation and the Taxation of Capital Income in the Corporate Sector," NBER Chapters, in: Inflation, Tax Rules, and Capital Formation, pages 116-152, National Bureau of Economic Research, Inc.
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    11. Miller, Merton H, 1977. "Debt and Taxes," Journal of Finance, American Finance Association, vol. 32(2), pages 261-275, May.
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    Cited by:

    1. Kwang Soo Cheong, 1998. "Corporate Income Taxation and Signaling," Public Finance Review, , vol. 26(5), pages 480-502, September.
    2. Bulow, Jeremy I & Summers, Lawrence H, 1984. "The Taxation of Risky Assets," Journal of Political Economy, University of Chicago Press, vol. 92(1), pages 20-39, February.
    3. Gordon, Roger H., 1989. "Notes on cash - flow taxation," Policy Research Working Paper Series 210, The World Bank.
    4. David F. Bradford & Don Fullerton, 1981. "Pitfalls in the Construction and Use of Effective Tax Rates," NBER Working Papers 0688, National Bureau of Economic Research, Inc.

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