Who Pays the Corporate Tax in an Open Economy? · Agilent Technologies, Inc. Altria Group, Inc....

International Tax Policy Forum

INTERNATIONAL TAX POLICY FORUM/

THE URBAN-BROOKINGS TAX POLICY CENTER

SEMINAR

Who Pays the Corporate Tax in an Open Economy?

December 18, 2007

WWW.TAXPOLICYCENTER.ORG

www.itpf.org


INTERNATIONAL TAX POLICY FORUM / URBAN-BROOKINGS TAX POLICY CENTER SEMINAR

Who Pays the Corporate Tax in an Open Economy?

Tuesday, December 18, 2007

Table of Contents

I. Agenda …………………………………………………………………………… 3

II. About the International Tax Policy Forum ……………………………………… 4

III. About the Tax Policy Center ……………………………………………………. 5

IV. Alan J. Auerbach, "Who Bears the Corporate Tax? A Review of What we Know" (September 2005)…………..…………………………………………................. 6

V. Alan J. Auerbach, "Who Bears the Corporate Tax Burden?" (December 18, 2007) [Presentation] …………………………………………… 32

VI. Alan D. Viard, "How Does the U.S. Government Distribute Corporate Tax Burdens?" [Presentation] ……….………………………………………………. 44

VII. Mihir A. Desai, C. Fritz Foley, James R. Hines, Jr., "Labor and Capital Shares of the Corporate Tax Burden: International Evidence" (December 2007)……… 51

VIII. Kevin A. Hassett and Aparna Mathur, "Taxes and Wages" (March 6, 2006) …... 78

IX. William C. Randolph, "International Burdens of the Corporate Income Tax", Working Paper Series, Congressional Budget Office (August 2006)…………… 103

X. Biographies of Participants …………………………………………………….. 138

.

International Tax Policy Forum and Urban-Brookings Tax Policy Center

Who Pays the Corporate Tax in an Open Economy? With a Keynote Address by former U.S. Treasury Secretary, Lawrence Summers

Date: Tuesday, December 18, 2007, 8:30 a.m.–1:30 p.m. Location: Urban Institute, 2100 M St., NW, Washington, DC (entrance on 21st Street) 5th Floor, Katharine Graham Conference Center

This conference considers the distribution of corporate tax burdens in open economies. It is well understood that high corporate taxes may be borne by capital owners in the form of lower after-tax profits, by consumers in the form of higher prices, or by workers in the form of reduced wages. Expanding international trade and investment may change the effects of corporate taxation, with implications for the distribution of the U.S. corporate tax burden.

8:15 a.m. Registration 8:50 a.m. Introductory Remarks John Samuels (GE) and Bill Gale (Brookings) 9:00 a.m. What do we know about who bears the corporate tax burden?

Moderator: James Hines (Michigan) Presenter: Alan Auerbach (UC-Berkeley)

9:45 am How does the U.S. government distribute corporate tax burdens? Moderator: Alan Auerbach (UC-Berkeley)

Presenter: Alan Viard (AEI) 10:15 am Evidence of the impact of corporate taxation on wages and profits Moderator: Glenn Hubbard (Columbia)

Presenters: Mihir Desai (Harvard) and Fritz Foley (Harvard) Discussant Kevin Hassett (AEI)

11:00-11:15 Break 11:15 am Is it time to change the way the U.S. government distributes corporate tax burdens? Moderator: Michael Graetz (Yale)

Presenters: Robert Carroll (U.S. Treasury), Eric Toder (Urban Institute), James Hines (Michigan) and William Randolph (CBO)

Noon Luncheon 12:30 pm Keynote Address: Lawrence Summers (Harvard) 1:15 pm Adjourn


About the International Tax Policy Forum Web site: www.itpf.org Member Companies Alcoa, Inc. Agilent Technologies, Inc. Altria Group, Inc. Amgen, Inc. Bank of America Caterpillar Inc. Citigroup Delphi Corporation EDS Eli Lilly and Company Emerson Electric Co. Exxon Mobil Corporation Ford Motor Company General Electric Co. IBM Corporation ITT Industries, Inc. Intel Corp. Johnson & Johnson Mars, Incorporated McDonald’s Merrill Lynch Microsoft Corporation Morgan Stanley Group Inc. PepsiCo, Inc. The Coca-Cola Company The Procter & Gamble Company The Prudential Insurance Company Time Warner Inc. Tupperware Corporation United Technologies Corporation Wal-Mart Stores, Inc. Wyeth John M. Samuels, Chairman Board of Academic Advisors

Founded in 1992, the International Tax Policy Forum is an independent group of 31 major U.S. multinationals with a diverse industry representation. The Forum’s mission is to promote research and education on the taxation of multinational companies. Although the Forum is not a lobbying organization, it has testified before the Congressional tax-writing committees on the effects of various tax proposals on U.S. competitiveness. The ITPF also briefs Congressional staff periodically and sponsors public seminars on major international tax policy issues. Most recently, in December 2006, the ITPF co-sponsored a conference on “Tax Havens and Foreign Direct Investment” with the American Enterprise Institute.

On the research front, the Forum has commissioned over 20 papers on international tax policy topics such as the effects of the interest allocation rules on the competitiveness of U.S. firms, the compliance costs of taxing foreign source income, and differences in effective tax rates faced by U.S. domestics and U.S. multinationals (see www.ITPF.org). Members of the Forum meet three times a year in Washington, DC to discuss key international tax policy issues with leading experts in government, academia, and private practice. PricewaterhouseCoopers LLP serves as staff to the Forum. John Samuels, Vice President and Senior Counsel for Tax Policy and Planning with General Electric Company, chairs the Forum. The ITPF’s Board of Academic Advisors is chaired by Prof. Glenn Hubbard (Columbia University) and includes Prof. James Hines (University of Michigan) who also directs the ITPF research program, Prof. Michael Graetz (Yale), Prof. Alan Auerbach (University of California, Berkeley), Prof. Mihir Desai (Harvard) and Prof. Matthew Slaughter (Dartmouth).

Glenn Hubbard, Chairman James R. Hines, Jr., Research Director Alan J. Auerbach Mihir A. Desai Michael J. Graetz Matthew J. Slaughter Consultants Lindy Paull Bernard M. (Bob) Shapiro Bill Archer Peter R. Merrill

ITPF Mission Statement The primary purpose of the Forum is to promote research and education on U.S. taxation of income from cross-border investment. To this end, the Forum sponsors research and conferences on international tax issues and meets periodically with academic and government experts. The Forum does not take positions on specific legislative proposals.

1301 K Street, NW 800W Washington, DC 20005 202/414-1666 202/414-1301 FAX

http://www.itpf.org/

About the Tax Policy Center TPC Quick Facts

TPC scholars have testified before Congress 56 times since 2002

More than 2,000 news articles and editorials have cited TPC since 2002

TPC has produced more than 1,000 distribution and revenue tables

The TPC web site has an average of 5,310 visitors a day, or one visitor every 16

Advisory Board

Jodie Allen, Pew Research Center Robert Greenstein, Center on Budget and Policy Priorities Ronald A. Pearlman, Georgetown University Law Center Jean Ross, California Budget Project Leslie B. Samuels, Cleary, Gottlieb, Steen, and Hamilton Joel Slemrod, University of Michigan Jonathan Talisman, Capitol Tax Partners, LLP

State Advisory Board

David Brunori, George Washington University Robert Ebel, District of Columbia Office of Revenue Analysis William Fox, University of Tennessee Iris Lav, Center on Budget and Policy Priorities Therese McGuire, Northwestern University Jean Ross, California Budget Project

The Tax Policy Center (TPC), a joint venture of the Urban Institute and the Brookings Institution, opened its doors in April 2002 with the goal of improving tax policy and, ultimately, Americans’ quality of life and economic security. To that end, TPC provides objective, timely, and accessible information to help policymakers, journalists, interested laypeople, and academics identify and evaluate current and emerging tax policy options. Our work reflects the belief that better information, rigorous analysis, and fresh ideas injected at key points in the policy debate can forestall bad policies and reinforce good ones. The Center combines top national experts in tax, expenditure, and budget policy, and microsimulation modeling to concentrate on four overarching areas critical to future debate: Fair, simple, and efficient taxation: Virtually everyone agrees that taxes should be simple, fair, and efficient. Disagreement arises over how to define and achieve those objectives. TPC quantifies trade-offs among these goals and searches for reforms that increase simplicity, equity, and efficiency. Social policy in the tax code: Over the past decade, much of social policy has shifted from direct expenditures to tax subsidies. A full assessment of this shift as well as tax progressivity, marriage penalties, and related issues requires consideration of both tax and spending programs. TPC is evaluating this revolution in tax and social policy. Long-term implications of tax and budget choices: Long-term projections paint a constrained picture of the nation’s fiscal prospects because of unfunded public obligations related to rising health care costs and the retirement of the baby boomer generation. TPC examines the implications of current policies and proposed tax changes for future generations. State tax issues: State and local taxes play important roles in assisting low- and moderate-income families, attracting business development, and affecting the cyclical properties of the economy, and they serve as a laboratory for different approaches to resolving tax and fiscal issues. TPC builds on lengthy traditions at the Urban Institute and the Brookings Institution in examining state issues. TPC communicates its research on our popular website, www.taxpolicycenter.org, which Forbes named one of the top five sites in the tax field, and through an electronic newsletter that reaches more than 3,000 subscribers with information on TPC events and publications. In October 2007, the Center initiated a tax and budget policy blog called TaxVox, www.taxvox.org, to better communicate TPC research and analysis and encourage discussion of key issues in the tax policy debate.

Urban Institute 2100 M Street, NW Washington, DC 20037 202-833-7200 Brookings Institution 1775 Massachusetts Ave., NW Washington, DC 20036 202-797-6000

http://www.taxpolicycenter.org/

http://www.taxvox.org/

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1

Who Bears the Corporate Tax Burden?

Alan J. AuerbachDecember 18, 2007

Outline

• The US Corporate Tax• Old (Naïve?) Theory of Incidence• The Harberger Model• Beyond the Harberger Model

2

Trends in U.S. Federal Corporate Income Tax Revenue

0

1

2

3

4

5

1962 1967 1972 1977 1982 1987 1992 1997 2002 2007

Fiscal Year

Perc

ent o

f GD

P

0

5

10

15

20

25

Perc

ent o

f Rev

enuePercent of Revenue

Percent of GDP

Trends in U.S. Federal Corporate Income Tax Revenue

0

1

2

3

4

5

1962 1967 1972 1977 1982 1987 1992 1997 2002 2007

Fiscal Year

Perc

ent o

f GD

P

0

5

10

15

20

25Pe

rcen

t of R

even

uePercent of Revenue

Percent of GDP

3

S Corporation Share of Net US Corporate Income

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004Year

Shar

e of

Net

Inco

me

Share of All Corporate Income

Share of Nonfinancial Corporate Income

• Simplest theory: a burden on corporations• Simplest coherent theory: a burden on shareholders,

since it is really their income that is being taxed• Even this approach complicated by importance of tax-

exempt shareholders; would require further allocation– DC plans: workers– DB plans: firms (liability)? workers? (bargaining); all

taxpayers? (PBGC)– Nonprofit institutions: donors? beneficiaries?

• Maybe not as progressive as in past

Who Bears the Tax Burden?

4

The Harberger Model

• Investment will shift out of the corporate sector, leading to an equalization of after-tax returns on all investment– Owners of corporate capital bear only a share of the burden– But owners of all capital bear (roughly) the total burden

• Not as progressive as under shareholder incidence, but still progressive

• In introducing the possibility of behavioral responses, raises the issue of behavioral distortions– Burden > Revenue

What’s Missing?

• Dynamics• Investment Provisions• Corporate Financial Policy• Imperfect Competition• Saving

5

What’s Missing?

• Dynamics• Investment Provisions• Corporate Financial Policy• Imperfect Competition• Saving• International Context

Dynamics

• Even if Harberger’s is the right long-run approach, adjustment takes time– the corporate tax (or changes in the corporate tax)

should fall on corporate capital in the short run, gradually shifting to all capital in the long run

– But the incidence of the tax would have different timing than this suggests, because of capitalization

– all of the differential should be reflected in current asset values and hence borne by current shareholders

6

Investment Provisions

• With investment incentives (example: bonus depreciation) and historic cost depreciation, old and new capital have different tax attributes; new capital is favored

• Again, this extra tax on old capital should be reflected by capitalization, with the capitalized differential borne by shareholders

Corporate Financial Policy

• With debt and the interest deduction, does capital bear any burden?

• Stiglitz (1973), Miller (1977): corporate tax is voluntary, since can always use debt

• So, shareholders may bear tax, but netincidence of corporate tax may be negative: burdens of other taxes would be higher if option removed

• Changes in corporate tax fall on those who benefit, i.e., shareholders

7

Imperfect Competition

• Krzyzaniak and Musgrave (1963): corporate tax “over-shifted” – after-tax returns increase

• Over-shifting indicates the presence of imperfect competition

• With imperfect competition, there are noncompetitive rents being taxed

• If rents fixed, another component of the tax shareholders can’t shift. True for monopoly, but not necessarily for other modes of imperfect competition

Implications Thus Far

• For several different reasons, part of the corporate tax is likely to be borne by shareholders

• Because of capitalization of future taxes, incidence analysis has a second dimension –not just what income class, but also which generation

8

Saving

• So far, various channels through which a portion of the corporate tax will be borne by shareholders

• With capital stock fixed, the balance will still be borne by all capital via a lower rate of return, following Harberger’s logic

• If lower rates of return reduce saving, then part of the burden will be shifted to other factors of production, primarily labor

• But evidence weak on saving responsiveness

International Context

• In an open economy, another mechanism for an incipient decline in rates of return to reduce the domestic capital stock – capital flows

• But in the international context, further issues also arise– Tax systems at home and abroad (territorial,

worldwide, or mess)– Responses include not just location of capital, but

also location of corporate residence and profits

9


• Simplest situation: a world of source-based taxation

• By driving capital out, the part of the corporate tax that would otherwise fall on capital is at least partially shifted to domestic labor by capital outflows

• How much of this shift depends on how small a country and how well capital, goods and services flow


• First complication: with transfer pricing, profits can flow even if capital doesn’t

• This may not be bad for labor (the capital is still in place), but it is bad for revenue

• If we include the cost of distortions, burden goes down by less than revenue, and still likely to be shifted

10


• Second complication: with “lumpy”investment decisions (location, not just scale), the statutory tax rate may gain in importance relative to provisions aimed at investment– some rents may be internationally mobile


• Both complications – transfer pricing and shifting of rents – increase share of burden on domestic factors associated with an increase in statutory corporate tax rate

11


• Third complication: what about world-wide taxation?

• If done “right” by US – no taxation at source, full immediate taxation of US earnings at home and abroad – then corporate tax won’t influence capital flows by discouraging investment in US vs. elsewhere; but…


• Even in this case, corporate residence choice would be distorted, so shifting possible

• We don’t tax worldwide profits as accrued• We tax at source• All this makes the impact of actual US system

hard to analyze, but likely closer to a source-based tax than a residence-based one

12

Summing Up

• The corporate tax isn’t borne by corporations• Part of the corporate tax is borne by

shareholders – but we should pay attention to which part and which shareholders

• The rest of the corporate tax would fall on capital, but saving and especially international capital flows shift some of this to labor and other domestic factors (e.g., land)

Summing Up

• Incidence depends on the structure of taxation– Simple measures like revenues or effective tax

rates insufficient for assessment• Burden > tax revenue• Openness of the economy influences the

relative impact of different provisions (e.g., tax rate vs. tax base) and makes new issues (e.g., source vs. residence, expense allocation rules, etc.) relevant

1

How does the U.S. government distribute corporate tax burdens?

Alan D. ViardAmerican Enterprise Institute

December 18, 2007

Complex issues indistributional analysis

• Income classifier• Tax payments v. tax burdens• Phase-ins, sunsets• Timing provisions• Key issue: Short-run v. long-run incidence

2

Distributional analysisof corporate income tax

• Few analyses released recently– CBO annual effective-rate study

• Few big recent corporate tax changes• Waning interest in distributional analysis

by policymakers– Particularly, for corporate tax

Congressional Budget Office

• Oct. 1987, July 1988: Two alternatives, all to capital and all to labor– Allocating to (any) individuals viewed as new

• Feb. 1990: Half to capital, half to labor– Policymakers prefer single allocation

• Jan. 1994 and thereafter: All to capital– Based on assessment of literature

3

CBO measure of capital income

• Interest, dividends• Realized capital gains (scaled by

economy-wide realizations)• NOT income from pass-thru firms• No allocation to tax-sheltered accounts,

tax-exempt organizations

Treasury

• Longstanding allocation to capital• But, 1992 integration study included half-

capital, half-labor alternative

4

Treasury measureof capital income

• Interest, dividends• Realized capital gains• Income from pass-thru firms IF exempt

from payroll, self-employment tax• Distributions from tax-sheltered accounts• No allocation to tax-exempt organizations

Joint Committee on Taxation

• 1993 Red Book: All to corporate capital– Disclosure: Participated in writing

• Many ambitious recommendations, followed for about a year

• JCT stopped allocating corporate tax due to uncertainty

5

Council of Economic Advisers

• 2004 ERP chapters– Disclosure: Participated in writing

• Recommended long-run tables allocating part of burden to labor– Supplement, not replace, short-run tables

Other taxes disguisedas corporate taxes

• Disguised payroll taxes, subsidies– Red Book, p. 49 n.65; 2004 ERP, p. 108

• Disguised excise taxes, subsidies– Fullerton, Gillete, Mackey (1987); Gravelle

(JEL, 1992)• In practice, rarely treated separately

6

Investment incentives

• Apply only to new capital• Could be allocated to savers rather than

holders of capital (Red Book, pp. 50-51) • In practice, allocated to holders of capital• Treatment of timing – Red Book, Treasury

Consistency with individual tax

• Dividend taxes allocated to stockholders• To be consistent, corporate income tax

should be allocated to corporate capital• Burman, Gravelle, Rohaly (NTA

Proceedings, 2005)

7

Views of profession (1996)

• Fuchs, Krueger, Poterba (JEL, Sept. 1998)• Fraction of tax “ultimately” borne by capital

– Presumably refers to long-run incidence– Mean 41 percent, median 40 percent– Standard deviation 29 percent

• Three-quarters said 65 percent or less

Labor and Capital Shares of the Corporate Tax Burden: International Evidence

Mihir A. Desai Harvard University and NBER

C. Fritz Foley Harvard University and NBER

James R. Hines Jr. University of Michigan and NBER

December 2007

This paper was prepared for presentation at the International Tax Policy Forum and Urban-Brookings Tax Policy Center conference on Who Pays the Corporate Tax in an Open Economy?, 18 December, 2007. The authors thank the Division of Research at Harvard Business School for financial support.

Labor and Capital Shares of the Corporate Tax Burden: International Evidence

ABSTRACT

This paper develops and applies a simple framework for measuring the incidence of the corporate tax. This framework offers an empirical approach that jointly analyzes the degree to which owners of capital and workers share the burdens of corporate income taxes with the restriction that the overall burden is ultimately shared between them. Data on the foreign activities of American multinational firms provide wage rates and interest rates for a panel of more than 50 countries between 1989 and 2004. Evidence from applying this framework to these data indicates that between and 45 and 75 percent of the burden of corporate taxes is borne by labor with the balance borne by capital.

JEL Classifications: H22, H25, H87. Mihir A. Desai C. Fritz Foley James R. Hines Jr. Harvard Business School Harvard Business School Department of Economics Baker 265 Baker 235 University of Michigan Soldiers Field Soldiers Field 611 Tappan Street Boston, MA 02163 Boston, MA 02163 Ann Arbor, MI 48109-1220 [email protected] [email protected] [email protected]

1

1. Introduction

While there is universal agreement with the proposition that someone ultimately bears the

burden of corporate taxes, there is considerable uncertainty, and indeed controversy, over exactly

who this might be. The obvious candidates are owners of capital, whose after-tax returns may

decline as tax rates rise, and workers, whose real wages may be adversely affected by corporate

tax increases. Theoretical efforts to examine this question offer conflicting conclusions and

demonstrate an unsettling sensitivity to underlying assumptions. These highly stylized models

also leave open the question of whether actual economies, with their messy markets and no less

messy tax systems, in fact react to corporate tax changes in the ways that the models predict.

The prevailing uncertainty over the incidence of the corporate tax is particularly

unfortunate given that the distributional consequences of alternative tax policies are of

fundamental importance to their desirability and political attractiveness. It has proven extremely

difficult to evaluate corporate tax reforms on the basis of induced effects on the distribution of

real income in the absence of reliable empirical evidence. Since there is no sense in which the

burden of corporate taxes can fail ultimately to be borne, governments and policy analysts have

been obliged to take stabs in the intellectual dark by attributing corporate tax burdens to different

taxpaying groups. In practice, these attributions have an arbitrary feel: changes in corporate tax

burdens are sometimes assigned to owners of corporate shares, sometimes to capital owners

generally, and sometimes they simply are not attributed to anyone, despite the incoherence of

such an approach.

This paper develops and tests a simple framework to analyze the incidence of the

corporate tax. The theory of tax incidence offers guidance that is employed to sharpen estimates

of the distribution of corporate tax burdens. The simple fact that corporate taxes must be paid by

someone carries the implication that, if the economy consists of labor and capital, then any tax

burden not borne by labor must be borne by capital. As a result, one can estimate the impact of

corporate taxes on wages and returns to capital jointly, imposing a restriction that the effects sum

to total tax burdens. Specifically, the theory points to the use of a seemingly unrelated system of

regressions of wages and borrowing rates on measures of corporate taxes that includes a cross-

equation restriction on the total tax effects. This method offers a more powerful, reliable, and

2

consistent method of identifying the distribution of tax burdens than does estimating the returns

to labor or capital separately. This framework emphasizes the lessons of recent theoretical

developments, particularly Randolph (2006), that factor shares are critical for understanding the

incidence of the corporate tax.

This paper applies this framework to data collected from American multinational firms

operating in a large number of countries between 1989 and 2004. One of the benefits of using

these data is that they reflect the experiences of relatively comparable firms that report extensive

information on their operations in a consistent manner between countries and over time. This

sample excludes the United States, but includes evidence for more than 50 countries. Data on

wage rates and returns to capital are related to corporate tax rates and measures of factor shares

in several annual cross-sections and in a pooled analysis. The constraint on the coefficients

allows capital or labor to bear more than 100 percent of the burden, as some theoretical

variations suggest, but restricts the sum of the burden shares to equal one.

The results consistently indicate that corporate taxes depress both real wages and returns

to capital, with most of the burden of corporate taxes borne by labor. The baseline estimate for

the share of the burden borne by labor is 57 percent, and estimates vary between 45 and 75

percent, depending on the sample period and specification. These results are robust to the

inclusion of control variables that might otherwise explain wages and returns to capital and to the

inclusion of country fixed effects in a panel setting.

The method adopted in this paper moves part of the way toward reconciling empirical

estimates with the underlying theory of corporate tax incidence. Recent empirical efforts to

investigate corporate tax incidence focus largely on the extent to which high tax rates depress

real wages. Such an approach does not capitalize on the theoretical insight that the overall tax

burden must be shared between capital and labor. A second difference with earlier empirical

studies is that this paper analyzes data that are collected and reported on a comparable basis by

firms operating around the world. The use of these data has the potential to allay some of the

concerns that would otherwise arise from using data obtained from disparate sources.

The approach employed in the paper also has several limitations. First, the empirical

specifications rely heavily on the competitive market assumption that underlies the standard

3

theory of tax incidence. To the degree that the theory departs from reality, the estimating

equations may be misspecified. On balance, however, the benefit of the empirical power

obtained by constraining coefficients in accordance with standard economic theory seems to

outweigh the disadvantage of relying on the theory. Second, the use of data from multinational

firms may limit the applicability of the results obtained using these data. In particular, wage

rates, returns to capital, factor shares and tax rates faced by multinational firms may be

idiosyncratic and unrepresentative of the overall economy. Again, these potential limitations

must be weighed against the benefits of employing highly comparable data for a significant

fraction of global capital flows. These limitations and other matters of interpretation are

discussed below.

Section 2 of the paper reviews some of the theoretical insights and empirical estimates

from the literature on the incidence of the corporate tax. Section 3 provides a simple framework

that leads to a set of estimating equations and describes the data employed in the paper. Section

4 presents empirical evidence on the degree to which labor and capital share the burden of the

corporate tax. Sections 5 and 6 offer interpretations of these estimates, discuss their limitations,

and conclude.

2. Corporate Taxation and the Distribution of Its Burdens.

The simple intuition that owners of corporations bear the burden of corporate taxes

appears to be surprisingly fragile. The pioneering work of Harberger (1962) identifies the source

of the common perception that owners of corporations bear the burden of the corporate tax and

also demonstrates its sensitivity to modeling assumptions by showing that returns to capital

owners can increase with a corporate tax. The simple intuition relies on the insight that

corporate tax obligations contribute to the cost of investment and thereby encourage substitution

of other productive factors (such as labor) for capital used by corporations. Labor expenses are

deductible against taxable income, so the corporate tax does not affect the marginal condition

characterizing a firm’s decision of whether or not to employ additional labor. This substitution

of labor for capital depresses the demand for capital and thereby reduces its after-tax market

return in a closed economy.

4

Even in a closed economy, however, induced intersectoral reallocations of resources can

reverse this result. Corporate taxation increases the cost of producing corporate output, thereby

raising output prices, depressing demand, and shifting output from the corporate sector of the

economy to the noncorporate sector. This reallocation affects factor demands to the extent that

factor input ratios differ between the corporate and noncorporate sectors of the economy. If the

corporate sector of the economy has a lower capital/labor ratio than the noncorporate sector, then

the introduction of a corporate tax shifts resources into the noncorporate sector and thereby raises

the demand for capital. If this effect is large enough, then it has the potential to exceed in

magnitude the countervailing impact of factor substitution, thereby implying that higher rates of

corporate tax are associated with greater after-tax returns to capital – including capital invested

in corporations. It would then follow that labor bears the burden of the corporate tax in the form

of lower wages.

Open economy considerations further complicate the simple intuition that capital owners

bear the full burden of the corporate tax. As noted by Diamond and Mirrlees (1971), and applied

to open economies by Gordon (1986), Kotlikoff and Summers (1987a) and Gordon and Hines

(2002), any source-based capital income tax falls entirely on fixed local factors – typically labor

– in a setting with perfect capital mobility and product substitution. It follows from the

assumption of perfect capital mobility that after-tax rates of return to capital cannot differ

between countries, so higher corporate tax rates must discourage investment and thereby drive up

pretax rates of return to the point that after-tax returns remain equal. Since after-tax rates of

return to local capital do not change with corporate tax changes, it must be the case that local

labor and any other local factor whose location is fixed, the archetypal example being land, bear

the full burden of corporate taxes. Additionally, corporate taxes in large open economies may

have spillover effects. With fixed world supplies of capital, higher tax rates in one country

discourage local investment and drive investment to other countries, where it can reduce rates of

return to capital and increase wages.

Harberger (1995, 2006) and Randolph (2006) explore the sensitivity of conclusions

drawn from models of perfect capital mobility and fixed world capital supplies. They calibrate

models that incorporate what they argue are realistic estimates of relative capital intensities,

capital mobility, and product substitutability, finding that labor can be thought to bear a

5

significant fraction of the burden of the corporate tax. In the classes of simple models used in

these papers, any imperfect substitutability between foreign and domestic traded goods

effectively operates as a form of imperfect capital mobility. As the trade and capital accounts

must balance, imperfect substitutability between traded goods implies that extensive net

borrowing is expensive as it entails importing large volumes of foreign goods for which there is

diminishing marginal substitution. Gravelle and Smetters (2006) use a computable general

equilibrium model to allow for subtler variants of imperfect product competition, concluding that

corporate capital owners may bear the lion’s share of the corporate tax burden despite the

availability of capital inflows and outflows.1

The extensive theoretical results on the incidence of the corporate tax have not been

matched with as extensive an empirical investigation. The relative absence of empirical efforts

may reflect one of the central insights of Harberger (1962) - corporate taxation must be

understood in the context of the general equilibrium of an economy. In general equilibrium, all

markets affect each other and, as a result, it is typically necessary to use national information to

evaluate the impact of a country’s system of taxing corporate income. From an estimation

standpoint this greatly reduces the extent of tax variation that can be appropriately used to

identify the distribution of tax burdens, since tax differences among firms and between industries

may have broader effects that would be overlooked in standard partial equilibrium estimation.

The need to identify tax effects at national levels severely restricts the available sample from

which to draw inferences, and as a result, makes it particularly difficult to obtain reliable

empirical estimates.

Despite these challenges, several recent studies attempt to measure tax incidence in open

economies.2 Arulampalam et al. (2007), Felix (2007) and Hasset and Mathur (2006) all employ

international databases to explore the extent to which corporate taxes influence wages, thereby

indirectly assessing the incidence of the corporate tax. Arulampalam et al. (2007) employ micro

data from four countries over five years and conclude that between 60 to 100 percent of the

1 For more on the importance of product substitutability, see Davidson and Martin (1985) and Gravelle and Kotlikoff (1989, 1993). 2 There were several earlier efforts to empirically examine the incidence of the corporate tax, typically through time series analysis of domestic data. These include Krzyzaniak and Musgrave (1963), Gordon (1967), Dusansky (1972), Oakland (1972) and Sebold (1979). For excellent reviews of the existing empirical and theoretical literatures, see Auerbach (2006) and Gentry (2007).

6

corporate tax is passed on to labor. Given the limited number of countries in their estimating

sample, Arulampalam et al. (2007) are unable to estimate the impact of national tax rate

differences, instead considering differences in the tax situations of individual firms. They

analyze the extent to which a firm facing a higher tax burden than other firms shares the cost of

its disadvantaged tax situation with workers in the form of lower wages. Felix (2007) and

Hassett and Mathur (2006) instead consider the effects of national tax rates on wage

determination in competitive markets, employing measures of local wage rates in a much larger

sample of countries, and finding large effects of corporate taxes on wages. These empirical

studies offer specifications that investigate the relative importance of economic openness, the

magnitude of capital flows, the global nature of firms and the skill composition of the workforce

to the incidence of the corporate tax.

As noted by Gravelle and Hungerford (2007) and Felix (2007), some of the reported

wage equations indicate that labor bears an enormous cost of corporate taxation, the implied

burdens in some specifications approaching twenty times the revenue raised by corporate taxes.

Taken at face value, these estimates suggest that the distortions associated with the corporate tax

are huge. Another possibility is that these results reflect the impact of data inconsistencies or

correlated omitted variables. In order to assess the reliability of these estimates it is helpful to

compare them to results obtained using a consistent data set and an estimating method that

implicitly controls for some country-specific factors.

3. Estimation Method and Data.

This section sketches a framework that can be used to estimate corporate tax incidence.

The first part of this section considers the implications of economic openness for the incidence of

corporate income taxes, while the second part of the section describes the data used to estimate

the impact of corporate taxation.

3.1 Accounting for tax changes.

Consider a firm that produces output with capital (K) and labor (L) inputs, using a

production function denoted Q(K, L), and with output price normalized to unity. The firm’s

capital investments are assumed not to depreciate, and are financed with a combination of debt

7

(B) and equity (E). Labor is paid a wage of w, and debt holders receive a return of r. Denoting

by ρ the firm’s after-corporate-tax rate of return to equity investments, and denoting the

corporate tax rate by τ , it follows that:

(1) ( )[ ]( )τρ −−−≡ 1, rBwLLKQE .

Differentiating this expression with respect toτ , and applying the envelope theorem, produces:

(2) ( ) ( ) ( )[ ]rBwLLKQBddrL

ddwE

dd

−−−=−+−+ ,11 ττ

τττ

ρ .

The left side of equation (2) consists of three terms, of which the first is the change in returns to

equity holders, the second is the change in after-tax labor cost, and the third is the change in

after-tax borrowing costs. The right side of equation (2) is simply the effect of a tax change on

after-tax profits. Hence equation (2) reflects that higher tax costs must be compensated by a

reduction of wages or capital returns, or equivalently, that some factor in the economy must bear

the burden of corporate taxes.

It is noteworthy that output prices are normalized to one in the derivation of equation (2),

which implies that output prices are assumed not to change as corporate tax rates change. In a

single sector closed economy this assumption would simply represent a normalization of units,

having no economic consequence, but in a multisector economy, or an open economy, the

assumption that output prices are unaffected by corporate tax rates rules out effects that arise

from intersectoral reallocation of resources (as in Harberger, 1962) or changing terms of trade

between countries. For a small open economy in which the corporate and noncorporate sectors

produce goods for a competitive world market, it follows (Gordon and Hines, 2002) that output

prices cannot change in response to corporate tax changes, making the fixed price assumption a

reasonable specification in this situation.

Suppose that capital investments are financed with a fraction α of debt and ( )α−1 of

equity. Then equation (1) implies:

(3) ( ) ( )[ ]( )τααρ −−−≡− 1,1 KrwLLKQK ,

8

and differentiating with respect to τ produces:

(4) ( ) ( ) ( ) ( )[ ]KrwLLKQKddrL

ddwK

dd ατα

ττ

τα

τρ

−−−=−+−+− ,111 .

If investors are indifferent between receiving certainty-equivalent returns in the form of

bond interest and equity returns, then r=ρ , and (4) implies:

(5) ( ) ( ) ( )[ ]KrwLLKQLddwK

dd ατ

τατ

τρ

−−−=−+− ,11 .

In an extreme case, in which 0≅α , and investments are financed almost entirely with equity, (5)

implies:

(6) ( ) ( )[ ]wLLKQLddwK

ddr

−−=−+ ,1 τττ

.

Equation (6) clarifies that the burdens of corporate tax increases are shared between labor and

capital.

Under these conditions, the use of equation (1) allows equation (6) to be rewritten as:

(7) ( ) ( )ττττ −

−=−+1

111 rKLwddw

wrK

ddr

r.

This in turn implies:

(8) ( ) ( )ττττ −

−=−+1

1111rKLw

ddw

wddr

r.

Defining a labor share of output as QwLs ≡ , it follows that ( )

( ) ( )ss

wLQLw

rKLw

−=

−=

−1

1 τ . By

also applying that ( )ττ −−=

1ddr

ddr and ( )ττ −

−=1ddw

ddw , equation (8) becomes:

(9) ( )( )

( )( )

( ) 11

11

11

=−

−−

+−

− ss

wddw

rddr τ

ττ

τ.

9

3.2. Empirical implications.

In order to move to an estimating framework, it is useful to revisit an estimating equation

that is employed to assess the effect of corporate taxes on wages. The corporate tax rate is not

the only economic variable that affects wages and returns to capital. Letting X denote a vector of

country attributes relevant to wage determination, and defining ( )s

ss −≡

1* , it follows that the

traditional framework for estimating wages can framed as:

(10) ( ) ετγβ +−+= 1ln*ln sXw .

In this setting, ( )( )

( )ss

wddw

−−

−=

11

1τ

τγ . Note that this corresponds to the second half of the left

hand side of equation (9). Strictly speaking, equation (10) requires that s* not be a function of

τ .

One can readily imagine also estimating the parallel relationship for interest rates:

(11) ( ) ετγβρ ′+−′+′= 1lnln X ,

for which ( )( )ρτ

τργ −−

=′1

1dd .

The relationship expressed in equation (9) carries implications for the estimated

relationships (10) and (11), since these equations are not independent, but instead must satisfy an

adding-up constraint. In particular, equation (9) implies that:

(12) 1=′+ γγ .

This cross-equation restriction, which does not constrain the values of γ and γ’ between zero and

one, can then be employed when jointly estimating equations (10) and (11). It is worth noting

that coefficients derived from estimating these equations without imposing the cross-equation

constraint do not have natural interpretations, as they would then capture efficiency effects of

corporate taxation, and the influence of correlated omitted variables, instead of the determinants

of relative burdens.

10

The coefficients γ and γ ′ from equations (10) and (11) serve to identify the relative tax

burdens on the two factors of production. To see this, note that ( )QrK

QwLQs =

−=−1 and

therefore:

(13) ( ) ( ) ( )ττ −=

−−

1ln1

1ln1

ddr

QK

rddrs .

Similarly, QwLs = , so

(14) ( ) ( )ττ −=

− 1ln1

1ln ddw

QL

wddws .

Equations (13) and (14) lead directly to:

(15) ( ) ( )

( )

( )[ ]( )[ ]τ

τ

τ

τγγ

−−

=

−

−−=′ 1ln

1ln1

1ln

11ln1

ddrKddwL

rddr

wddw

ss

.

From the envelope theorem, the effect of a tax change on returns to labor is given by

( )[ ]τ−1lnddwL , and the effect of a tax change on returns to capital is given by

( )[ ]τ−1lnddrK . Hence the right side of (15) is simply the ratio of the burdens borne by labor

and capital, respectively, to a small tax change. This ratio equals the ratio of the two estimated

coefficients, γ and γ ′ .

It follows from equation (15) that estimating γ and γ ′ from equations (10) and (11),

constraining the resulting estimates to sum to one, provides direct estimates of the relative shares

of the corporate tax burden borne by labor and by capital. These shares are independent of the

deadweight loss of corporate taxation, reflecting tax burdens rather than total tax collections. For

example, if 67.0=γ , so that labor bears two thirds of the burden of corporate taxation, and the

deadweight loss of the corporate tax equals 50 percent of revenue collected, then labor’s total

burden equals 100 percent of corporate tax revenue, with capital bearing a burden equal to an

additional 50 percent of corporate tax revenue. An important way in which this estimating

11

method differs from its predecessors is that it identifies relative, but not total, burdens of the

corporate tax.

3.3. Data

The empirical work presented in section 4 is based on the most comprehensive and

reliable available data on the activities of U.S. multinational firms. The Bureau of Economic

Analysis (BEA) Benchmark Surveys of U.S. Direct Investment Abroad in 1989, 1994, 1999, and

2004 provide a panel of data on the financial and operating characteristics of U.S. multinational

affiliates.3 As discussed above, the question of incidence recommends the use of data that are

aggregated at the national level. Accordingly, an aggregation of the majority-owned activities of

foreign affiliates at the country-year level is employed in the analysis below.

Table 1 presents means, medians, and standard deviations of variables used in the

regressions that follow. The wage rate is defined as the ratio of total employee compensation

(including benefits) paid by majority owned foreign affiliates to numbers of employees. Since

the BEA data are measured in U.S. dollars, these can be interpreted as real wage rates to the

extent that purchasing power parity holds and thereby automatically corrects for the effects of

local inflation. As profit-type returns may reflect tax-motivated reallocation of pretax income,

returns to capital are captured by measuring average interest rates paid on the liabilities of

foreign affiliates. The interest rate is computed as the ratio of interest payments made by

majority foreign owned affiliate to the aggregate level of current liabilities and long-term debt,

with both variables again measured in U.S. dollars.4 Tax rates are measured for each country-

year combination as the ratio of aggregate foreign income tax payments to aggregate net income

plus foreign income tax payments. Given that country-specific values of s also have the potential

to reflect tax-motivated income reallocation, yearly aggregate values of s for the total foreign

activities of U.S. multinational firms are used in their place. Specifically, s is calculated as the

ratio of total employee compensation to the sum of total employment compensation, net income,

foreign income taxes and depreciation in a given year.

3 The International Investment and Trade in Services Survey Act governs the collection of the data and the Act ensures that “use of an individual company’s data for tax, investigative, or regulatory purposes is prohibited.” Willful noncompliance with the Act can result in penalties of up to $10,000 or a prison term of one year. As a result of these assurances and penalties, BEA believes that coverage is close to complete and levels of accuracy are high. 4 See Desai, Foley and Hines (2004) for a discussion and analysis of this interest rate variable and its alternatives.

12

In addition to these variables constructed from the BEA data, some regressions include

control variables used to explain wages and interest rates. For wages, the Barro-Lee measure of

average workforce education, measured in years, and obtained from Barro and Lee (2000), is

used as an explanatory variable. For interest rates, national measures of creditor rights, drawn

from Djankov, McLiesh, and Shleifer (2005), and local inflation rates, drawn from the World

Development Indicators, are included as explanatory variables. Desai, Foley and Hines (2004)

note that stronger legal protections for lenders and higher inflation rates are associated with

lower interest rates.5

4. The Distribution of Corporate Tax Burdens.

This section reports the results of estimating the distribution of corporate tax burdens

using the data from American multinational firms described in section 3.

4.1. Annual cross-sections

Table 2 presents results of seemingly unrelated systems of equations that restrict the sum

of the tax coefficients in the wage and interest rate specifications to equal one. The specification

explaining wages and the specification explaining interest rates are not therefore separate

regressions but instead components of a single regression. The estimated 0.6943 coefficient

estimated in the first regression implies that higher tax rates are associated with lower wages,

since 69 percent of the total tax burden is borne by labor. The corresponding 0.3057 coefficient

carries the mirror image implication that 31 percent of the total burden is borne by capital. The

estimated interest rate effect does not differ significantly from zero, but does differ significantly

from one, which is consistent with (indeed, implied by) the statistical significance of the

estimated wage effect reported in column one.

The second system of equations adds explanatory variables to the wage and interest rate

specifications. Specifically, the wage specification now includes the Barro-Lee measure of

workforce education, and the interest rate specification now includes measures of creditor rights

and local inflation. Since the regression requires information on all of these variables for any

5 Desai, Foley and Hines (2004) also report that higher corporate income tax rates are associated with lower interest rates in their affiliate-level specifications that control for various firm and affiliate attributes, a finding that is consistent with the results reported in section 4.

13

country included in the sample, the sample size falls from 52 observations for the regression

reported in columns one and two to just 41 observations. Workforce schooling has a large and

statistically significant effect on wages, the 0.2056 coefficient reported in column three implying

that each additional year of education increases employment compensation by about 20%. The

creditor rights and inflation variables appear to have only insignificant effects on reported

interest rates.

The inclusion of additional explanatory variables and restriction of the sample size

together reduces the magnitude of the estimated tax coefficient in the wage specification to

0.4839. There is a corresponding rise in the tax coefficient in the interest rate specification to

0.5161. Hence from these coefficients it appears that roughly half of the burden of corporate

taxation is borne by labor in the form of reduced wages, and half by capital in the form of

reduced returns.

In order to consider the dependence of these results to the use of 2004 data, Panels A, B,

and C of Table 3 repeat these regressions for cross sections of data covering 1999, 1994, and

1989. The results are broadly consistent with those reported in Table 2, though the estimated

burden on labor tends to be somewhat higher in these regressions than in the regressions reported

in Table 2. For example, regression (4) in Panel B of Table 3 reports estimated coefficients from

a regression explaining 1994 wages and interest rates as functions of local tax rates, worker

education, creditor rights and inflation. The estimated 0.7456 coefficient implies that three

quarters of the burden of corporate taxation is borne by labor, with the remaining 25 percent

borne by capital. This estimated labor share is significantly different from zero, but not

statistically different from one, implying that these results do not rule out the possibility that

labor bears 100 percent of the burden of corporate taxation, whereas they are inconsistent with

labor bearing none of the burden.

4.2. Panel evidence

Table 4 presents estimated coefficients from regressions using data from all four

benchmark survey years, 1989, 1994, 1999, and 2004. The estimated 0.7118 coefficient

obtained from the first seemingly unrelated regression implies that 71 percent of the burden of

corporate taxation is borne by labor, with the remaining 29 percent borne by capital. The

14

relatively small standard error suggests that it is possible to reject that the labor share of the tax

burden is either zero or 100 percent.

The second pair of specifications repeats this analysis but adds education, creditor rights,

and inflation as controls. The need to incorporate this information reduces the sample size. The

estimated labor share falls in these regressions, the 0.6152 coefficient in column three implying

that 62 percent of the burden of corporate taxes is borne by labor, again with a small enough

standard error that it is possible to reject that the labor share is either zero or 100 percent.

The third seemingly unrelated system of equations omits the control variables but

introduces country fixed effects, thereby estimating tax effects from changes in corporate tax

rates between benchmark survey years. This approach implicitly controls for country attributes

that do not change over the 1989-2004 period. The 0.5665 coefficient in column five implies

that labor bears 57 percent of the burden of corporate taxes. Together with the small associated

standard error, this coefficient implies that it is possible to reject that labor’s share of the total tax

burden is outside the range of 40-74 percent.

Finally, the fourth pair of specifications presented in Table 4 adds country fixed effects to

the second pair of specifications. The results of this regression suggest that labor bears a

somewhat smaller share of the total corporate tax burden than does the third regression. The

0.4469 coefficient in column seven implies that labor bears 45 percent of the total tax burden, the

remaining 55 percent falling on capital.

The regressions reported in Table 4 include specifications that interact local tax rates with

measured values of s*, a function of aggregate shares of labor compensation in total returns.

Since the sample mean value of s is 0.4823, it does little injustice to the data simply to fix the

value of s* at unity, thereby effectively removing this interaction from the tax term on the right

side of the wage specifications. Table 5 reports results from estimating the same regressions as

those reported in Table 4, but imposing that s* = 1.

The estimated coefficients reported in Table 5 are similar to those reported in Table 4, the

primary difference being that the estimated labor share of the total tax burden is somewhat

higher in the specifications in Table 5. For example, the 0.7521 coefficient estimated from the

15

first regression implies that labor bears three quarters of the total burden of corporate taxes,

which compares to the 0.7118 coefficient reported for the analogous regression in Table 4. The

differences between the results in these two tables are the greatest for the third and fourth

regressions, reported in columns 5-8, that include country fixed effects. Thus, the 0.7326

coefficient estimated from the third regression presented in Table 5 implies that labor bears 73

percent of the corporate tax burden, whereas the corresponding 0.5665 coefficient in Table 4

implies that labor bears only 57 percent of the burden. Similarly, the 0.5889 coefficient

estimated from the fourth regression presented in column 8 of Table 5 suggests a notably larger

labor share of total burdens than does the corresponding 0.4469 coefficient in Table 4. It is clear,

therefore, that time-varying labor shares of total output are not responsible for the significant

labor shares of total tax burdens implied by the results reported in Table 4. It is also the case

that, at least in these specifications, treating labor shares in an arbitrary manner by imposing a

value that removes the labor share variable from the estimation has the effect of increasing the

estimated fraction of the tax burden borne by labor.

5. Interpretation

This section considers two issues that arise in interpreting the empirical results. The first

of these issues is the consistency of the empirical estimates with the theoretical literature that

emphasizes perfect international capital mobility. The second issue is the extent to which it is

appropriate to draw broad economic conclusions from an analysis based on data drawn from

American multinational firms.

5.1. Local effects and spillover effects

Do the regression estimates presented above capture the entire distributional

consequences of corporate tax changes? These cross sectional and panel regressions provide

estimates of the average effect of tax differences on after-tax returns to local factors. As

emphasized in the Randolph (2006) application of the Kotlikoff and Summers (1987a)

framework, a corporate tax change in one country typically affects wages and rates of return to

capital in all other countries. As such, the statistical evidence presented in section four does not

identify all of the distributional effects of a country’s corporate tax rate. The evidence instead

isolates any effect of international differences in corporate tax rates on differences in factor

16

returns, not incorporating any distributional impact that average corporate tax rate levels may

have.

If the assumption of perfect capital mobility embodied in the Randolph (2006) and

Kotlikoff and Summers (1987a) approach were correct, then regressions such as those presented

in section four would show that borrowing rates are unrelated to corporate income tax rates.

Nonetheless, Randolph’s model implies that roughly 30 percent of the burden of U.S. corporate

income taxes is borne by U.S. capital. This burden arises because, with a fixed worldwide

capital stock, worldwide capital bears 100 percent of the burden of U.S. corporate taxation and

the U.S. comprises 30 percent of the worldwide capital stock. Consequently, these models imply

that the worldwide rate of return to capital varies year by year according to how heavily the

whole world taxes corporate income. Regressions, however, do not pick up this effect as they

are based on comparing rates of return between countries in the same year.

How should one interpret the findings in section four in light of the effects of average

world tax rates identified in the work of Kotlikoff and Summers (1987a), and applied in the

Randolph (2006) model? From the standpoint of a small open economy, the cross sectional

results likely identify the full burden of the corporate tax, given that spillover effects from a

small open economy to the rest of the world, and thereby back to the small country, are apt to be

tiny. For a large open economy such as the United States, corporate tax changes have the

potential to have sizable spillover effects on world interest rates and wages that are not captured

in the empirical estimates provided in this paper.

It is difficult to combine the effects of average world tax rates with cross-sectional

estimates to project the distributional impact of corporate tax changes in large countries. Simply

adding empirical estimates of within-country effects of corporate tax changes and the numerical

simulations from Randolph’s model for spillover effects would be incorrect. Indeed, the

evidence that interest rates vary with corporate income tax rates, for example, is inconsistent

with assumptions underlying the Randolph model, instead being consistent with a framework in

which there is imperfect international capital mobility, at least in the short run. Furthermore, the

strong and untested assumption of Randolph’s model that the total world capital supply is

unaffected by after-tax returns is responsible for at least some of the model’s stark conclusions.

17

While some of the implications of average world corporate tax rates highlighted by Randolph’s

calculations certainly should be incorporated in a complete assessment of the effects of a U.S.

corporate tax reform, in the absence of empirical evidence it is difficult to know exactly to what

extent it is necessary to modify conclusions that can be drawn from cross-sectional evidence.

5.2. Multinational firms and national economies

If the activities of American multinational firms operating abroad were perfectly

representative of their host economies, then estimating the relationship between taxes, wages and

returns to capital in the manner employed in section four would constitute a straightforward

application of the framework sketched in section three. In reality, available evidence on the

activities of multinational firms suggests that multinational firms differ in important dimensions

from local firms. For example, there is a consensus that wages paid by multinational firms

exceed those paid by local firms.6 Such differences, while well-established, need not influence

the interpretation of the empirical results if multinational firms pay wages that exceed prevailing

local wages by percentages that are not influenced by corporate tax rates. Similarly, while

foreign investors may confront borrowing costs that differ from those facing local firms, the use

of interest rates paid by multinational firms as indicators of local capital returns produces valid

inferences as long as the ratio of these two borrowing costs is not itself influenced by corporate

tax rates.

These considerations and others suggest that it would be worthwhile to estimate the

extent to which corporate taxes affect wages and capital returns in a simultaneous system using

data that cover more than the foreign operations of American multinational firms. One

formidable challenge facing such an estimation is the compilation of consistent data for a large

enough number of countries to provide statistical reliability for the results. While there is good

reasons to expect that conclusions drawn from the environment facing American firms are likely

to apply to entire economies, this is a proposition that might well benefit from further empirical

exploration.

6 The wage premium paid by the foreign affiliates of multinational firms reflects the greater than average skills of the labor force they employ, rather than a tendency to assign some home country workers to foreign locations. U.S. citizens represented less than 0.3 percent of the employees of foreign affiliates of American multinational firms in 1999, far too small a fraction to influence average wages significantly.

18

6. Conclusion

Who bears the burden of corporate taxes in modern open economies? Economic theory

points to a range of possibilities. While the available theory does not identify specific answers, it

does suggest a worthwhile empirical framework that can be used to estimate the distribution of

corporate tax burdens. Applying this framework to data on American multinational firms that

operate around the world produces estimates that imply that the burden of corporate taxation is

borne by labor to a significant degree. These estimates evaluate the extent to which differences

in corporate tax rates are associated with differences in after-tax returns to capital and labor,

likely capturing the full burden of corporate taxes in small economies and most if not close to all

of the distributional effects of corporate taxes in large economies.

It is possible to bring both more evidence and sharper theory to bear on the question of

the distributional impact of corporate taxation. The use of aggregate national data collected on a

consistent basis for a large number of countries has the potential to enlighten our understanding

of the workings of corporate taxation on parts of economies that are less influenced by foreign

direct investment. Tax incidence theory might usefully distinguish the effects of tax rates and

tax bases, the treatment of individual industries and sectors, and other realistic features of

corporate taxation that could be incorporated in future empirical work. For all that remains to be

done, however, it is a mistake to overlook the evidence before us, in which it appears that the

burden of corporate taxation is not, as some have thought, entirely borne by owners of

corporations or owners of capital, but instead shared between labor and capital.

19

References

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Diamond, Peter A. and James Mirrlees (1971). “Optimal taxation and public production, I: Production efficiency; II: Tax rules,” American Economic Review, 61 (1, 2), 8-27, 261-278.

Djankov, Simeon, Caralee McLiesh, and Andrei Shleifer (2005). “Private Credit in 129 Countries,” Working Paper, Harvard University.

Dusansky, Richard (1972). “The Short-Run Shifting of the Corporation Income-Tax in the United States,” Oxford Economic Papers, 24(3):357-371.

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Gravelle, Jane G. and Thomas L. Hungerford (2007). “Corporate Tax Reform: Issues for Congress,” CRS Report for Congress.

Gravelle, Jane G. and Laurence J. Kotlikoff (1989). “The Incidence and Efficiency Costs of Corporate Taxation When Corporate and Noncorporate Firms Produce the Same Good,” Journal of Political Economy, 97(4):749-780.

20

Gravelle, Jane G. and Laurence J. Kotlikoff (1993). “Corporate Tax Incidence and Inefficiency When Corporate and Noncorporate Goods are Close Substitutes,” Economic Inquiry, 31(4):501-516.

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Mean MedianStandard Deviation

LN (Wage) 3.0984 3.2091 0.7365

LN (Interest Rate) -3.6777 -3.6379 0.7374

s 0.4823 0.4931 0.0584

LN (1-Tax Rate) -0.3744 -0.2971 0.3793

((1-s )/s ) * LN (1-Tax Rate) -0.3989 -0.3118 0.3893

Workforce Schooling 7.6838 7.8930 2.2323

Creditor Rights 2.0695 2.0000 1.1362

LN (Inflation) -2.9234 -2.8895 1.3894

Table 1Descriptive Statistics

Notes: LN (Wage) is the natural log of employment compensation per employee as measured in the BEA data. LN (Interest Rate) is the natural log of the ratio of interest payment to current liabilities and long term debt, computed using BEA data. Tax Rates are imputed from the BEA data by taking the ratio of foreign income taxes paid to the sum of foreign income taxes paid and net income. S is the ratio of employment compensation to the sum of employment compensation, net income, foreign income taxes, and depreciation and it is calculated at the annual level using aggregate worldwide BEA data. Workforce Schooling is the average schooling years in the population over 25 years old provided in Barro and Lee (2000). Creditor Rights is an index of the strength of creditor rights developed in Djankov, McLiesh, and Shleifer (2005); higher levels of the measure indicate stronger legal protections. LN (Inflation) is the natural log of the rate of inflation as measured using GDP deflator data drawn from the World Development Indicators.

Dependent Variable: LN (Wage) LN (Interest Rate) LN (Wage) LN (Interest

Rate)

Constant 3.6416 -3.8137 1.8783 -3.7709(0.1271) (0.1053) (0.3108) (0.3406)

((1-s )/s ) * LN (1-Tax Rate) 0.6943 0.4839(0.2047) (0.1847)

LN (1-Tax Rate) 0.3057 0.5161(0.2047) (0.1847)

Workforce Schooling 0.2056(0.0363)

Creditor Rights 0.0442(0.0725)

LN (Inflation) -0.0154(0.0914)

No. of Obs.Log Likelihood

Notes: This table presents the results of constrained, seemingly unrelated regressions using 2004 data. LN (Wage) is the natural log of employment compensation per employee as measured in the BEA data. LN (Interest Rate) is the natural log of the ratio of interest payment to current liabilities and long term debt, computed using BEA data. Tax Rates are imputed from the BEA data by taxing the ratio of foreign income taxes paid to the sum of foreign income taxes paid and net income. s is the ratio of employment compensation to the sum of employment compensation, net income, foreign income taxes, and depreciation and it is calculated at the annual level using aggregate worldwide BEA data. Workforce Schooling is the average schooling years in the population over 25 years old provided in Barro and Lee (2000). Creditor Rights is an index of the strength of creditor rights developed in Djankov, McLiesh, and Shleifer (2005); higher levels of the measure indicate stronger legal protections. LN (Inflation) is the natural log of the rate of inflation as measured, using GDP deflator data drawn from the World Development Indicators.

2004 Cross-Sectional Constrained Seemingly Unrelated Regressions

Table 2

-103 -61

(1) (2)

52 41

Dep

ende

nt

Vari

able

:LN

(Wag

e)LN

(I

nter

est

Rat

e)LN

(Wag

e)LN

(I

nter

est

Rat

e)LN

(Wag

e)LN

(I

nter

est

Rat

e)LN

(Wag

e)LN

(I

nter

est

Rat

e)LN

(Wag

e)LN

(I

nter

est

Rat

e)LN

(Wag

e)LN

(I

nter

est

Rat

e)

Con

stan

t3.

3461

-3.7

290

2.24

37-3

.339

63.

3214

-3.5

696

1.81

32-2

.971

13.

0581

-3.0

228

1.81

19-2

.120

0(0

.148

8)(0

.153

0)(0

.381

4)(0

.266

1)(0

.118

5)(0

.106

1)(0

.340

6)(0

.181

5)(0

.128

7)(0

.132

3)(0

.328

6)(0

.261

3)

0.45

470.

7241

0.72

630.

7456

0.56

950.

5538

(0.3

426)

(0.3

222)

(0.1

802)

(0.2

190)

(0.1

328)

(0.1

229)

0.54

530.

2759

0.27

370.

2544

0.43

060.

4462

(0.3

426)

(0.3

222)

(0.1

802)

(0.2

190)

(0.1

328)

(0.1

229)

0.14

290.

1860

0.17

17(0

.043

4)(0

.040

9)(0

.042

1)

0.06

23-0

.032

7-0

.052

5(0

.082

6)(0

.053

6)(0

.096

0)

LN (I

nfla

tion)

0.10

360.

1570

0.31

25(0

.063

0)(0

.045

4)(0

.070

7)

No.

of O

bs.

Log

Like

lihoo

d

((1-

s)/s

) * L

N (1

-Ta

x R

ate)

Wor

kfor

ce

Scho

olin

g

Cre

dito

r Rig

hts

LN (1

-Tax

Rat

e)

Tab

le 3

Alte

rnat

ive

Ann

ual C

ross

-Sec

tiona

l Res

ults

Pane

l A: 1

999

(1)

(2)

(3)

(4)

(5)

(6)

-97

-54

Not

es: T

his t

able

pre

sent

s the

resu

lts o

f con

stra

ined

seem

ingl

y un

rela

ted

regr

essi

ons u

sing

dat

a fr

om 1

999,

199

4, a

nd 1

989

in P

anel

s A, B

, and

C, r

espe

ctiv

ely.

LN

(Wag

e) is

the

natu

ral l

og o

f em

ploy

men

t co

mpe

nsat

ion

per e

mpl

oyee

as m

easu

red

in th

e B

EA d

ata.

LN

(Int

eres

t Rat

e) is

the

natu

ral l

og o

f the

ratio

of i

nter

est p

aym

ent t

o cu

rren

t lia

bilit

ies a

nd lo

ng te

rm d

ebt,

com

pute

d us

ing

BEA

dat

a. T

ax R

ates

ar

e im

pute

d fr

om th

e B

EA d

ata

by ta

xing

the

ratio

of f

orei

gn in

com

e ta

xes p

aid

to th

e su

m o

f for

eign

inco

me

taxe

s pai

d an

d ne

t inc

ome.

s is

the

ratio

of e

mpl

oym

ent c

ompe

nsat

ion

to th

e su

m o

f em

ploy

men

t co

mpe

nsat

ion,

net

inco

me,

fore

ign

inco

me

taxe

s, an

d de

prec

iatio

n, c

alcu

late

d at

the

annu

al le

vel u

sing

agg

rega

te w

orld

wid

e B

EA d

ata.

Wor

kfor

ce S

choo

ling

is th

e av

erag

e sc

hool

ing

year

s in

the

popu

latio

n ov

er 2

5 ye

ars o

ld p

rovi

ded

in B

arro

and

Lee

(200

0).

Cre

dito

r Rig

hts i

s an

inde

x of

the

stre

ngth

of c

redi

tor r

ight

s dev

elop

ed in

Dja

nkov

, McL

iesh

, and

Shl

eife

r (20

05);

high

er le

vels

of t

he m

easu

re in

dica

te

stro

nger

lega

l pro

tect

ions

. LN

(Inf

latio

n) is

the

natu

ral l

og o

f the

rate

of i

nfla

tion

as m

easu

red

usin

g G

DP

defla

tor d

ata

draw

n fr

om th

e W

orld

Dev

elop

men

t Ind

icat

ors.

5031

5039

5242

Pane

l C: 1

989

Pane

l B: 1

994

-125

-81

-107

-44

Dependent Variable: LN (Wage)

LN (Interest

Rate)

LN (Wage)

LN (Interest

Rate)

LN (Wage)

LN (Interest

Rate)

LN (Wage)

LN (Interest

Rate)

Constant 3.3823 -3.5698 1.8567 -2.8089 2.3000 -3.0667 1.3252 -2.8009(0.0661) (0.0648) (0.1762) (0.1341) (0.3282) (0.5003) (0.3080) (0.2974)

0.7118 0.6152 0.5665 0.4469(0.1002) (0.0909) (0.0843) (0.0734)

0.2882 0.3848 0.4335 0.5531(0.1002) (0.0909) (0.0843) (0.0734)

0.1878 0.3182(0.0212) (0.0499)

0.0274 0.1407(0.0416) (0.1438)

LN (Inflation) 0.2206 0.2340(0.0338) (0.0369)

Country Fixed Effects?No. of Obs.Log Likelihood

(4)

204 153 204 153N N Y Y

Creditor Rights

(1) (2) (3)

Notes: This table presents the results of constrained seemingly unrelated regressions using pooled data from 2004, 1999, 1994, and 1989. LN (Wage) is the natural log of employment compensation per employee as measured in the BEA data. LN (Interest Rate) is the natural log of the ratio of interest payment to current liabilities and long term debt, computed using BEA data. Tax Rates are imputed from the BEA data by taxing the ratio of foreign income taxes paid to the sum of foreign income taxes paid and net income. s is the ratio of employment compensation to the sum of employment compensation, net income, foreign income taxes, and depreciation, calculated at the annual level using aggregate worldwide BEA data. Workforce Schooling is the average schooling years in the population over 25 years old provided in Barro and Lee (2000). Creditor Rights is an index of the strength of creditor rights developed in Djankov, McLiesh, and Shleifer (2005); higher levels of the measure indicate stronger legal protections. LN (Inflation) is the natural log of the rate of inflation as measured using GDP deflator data drawn from the World Development Indicators.

Panel Analysis: 1989, 1994, 1999, and 2004

Table 4

-463 -272 -178 -85

((1-s )/s ) * LN (1-Tax Rate)

LN (1-Tax Rate)

Workforce Schooling

Dependent Variable: LN (Wage)

LN (Interest

Rate)

LN (Wage)

LN (Interest

Rate)

LN (Wage)

LN (Interest

Rate)

LN (Wage)

LN (Interest

Rate)

Constant 3.3800 -3.5849 1.9249 -2.8496 2.3131 -3.6142 1.5434 -2.8682(0.0644) (0.0647) (0.1760) (0.1320) (0.3088) (0.4615) (0.3006) (0.2879)

0.7521 0.6989 0.7326 0.5889(0.1006) (0.0924) (0.0825) (0.0748)

0.2479 0.3011 0.2674 0.4111(0.1006) (0.0924) (0.0825) (0.0748)

0.1805 0.2660(0.0212) (0.0494)

0.0277 0.1220(0.0407) (0.1392)

LN (Inflation) 0.2179 0.2330(0.0332) (0.0358)

Country Fixed Effects?No. of Obs.Log Likelihood

Notes: This table presents the results of constrained seemingly unrelated regressions using pooled data from 2004, 1999, 1994, and 1989. In these regressions, the value of the labor share, s , is fixed at 0.5. LN (Wage) is the natural log of employment compensation per employee as measured in the BEA data. LN (Interest Rate) is the natural log of the ratio of interest payment to current liabilities and long term debt, computed using BEA data. Tax Rates are imputed from the BEA data by taxing the ratio of foreign income taxes paid to the sum of foreign income taxes paid and net income. Workforce Schooling is the average schooling years in the population over 25 years old provided in Barro and Lee (2000). Creditor Rights is an index of the strength of creditor rights developed in Djankov, McLiesh, and Shleifer (2005); higher levels of the measure indicate stronger legal protections. LN (Inflation) is the natural log of the rate of inflation as measured using GDP deflator data drawn from the World Development Indicators.

Panel Analysis with Fixed Values for the Labor Share

Table 5

-461 -268 -167 -76

((1-s )/s ) * LN (1-Tax Rate)

LN (1-Tax Rate)

Workforce Schooling

Creditor Rights

(1) (2) (3) (4)

204 153 204 153N N Y Y

Prel

imin

ary

and

Inco

mpl

ete:

Do

Not

Quo

te

Taxe

s and

Wag

es

By

Kev

in A

. Has

sett

AEI

And

Apa

rna

Mat

hur

AEI

Mar

ch 6

, 200

6

____

____

____

____

____

____

____

____

____

____

____

____

____

____

____

____

____

____

Dire

ctor

of

econ

omic

pol

icy

stud

ies

and

rese

arch

fel

low

, th

e A

mer

ican

Ent

erpr

ise

Inst

itute

, re

spec

tivel

y.

We

than

k A

lan

Aue

rbac

h an

d D

oug

Hol

tz-E

akin

for

hel

pful

co

mm

ents

, and

Ann

e M

oore

for e

xcel

lent

rese

arch

ass

ista

nce.

Abs

trac

t

Usi

ng p

anel

dat

a fo

r 72

coun

tries

and

22

year

s, w

e ex

plor

e th

e lin

k be

twee

n ta

xes

and

man

ufac

turin

g w

ages

. W

e fin

d, c

ontro

lling

for

mac

roec

onom

ic v

aria

bles

that

hav

e

been

fou

nd i

n th

e lit

erat

ure

to i

nflu

ence

wag

es,

stat

istic

ally

sig

nific

ant

evid

ence

tha

t

wag

e ra

tes a

re n

ot re

spon

sive

to m

edia

n or

ave

rage

inco

me

tax

rate

s. W

e fin

d th

at w

ages

are

sign

ifica

ntly

resp

onsi

ve to

cor

pora

te ta

xatio

n, a

nd th

at th

e re

spon

sive

ness

of w

ages

to

corp

orat

e ta

xatio

n is

lar

ger

in s

mal

ler

coun

tries

. W

e al

so f

ind

that

tax

and

wag

e

char

acte

ristic

s of

nei

ghbo

ring

coun

tries

, w

heth

er g

eogr

aphi

c or

eco

nom

ic,

have

a

sign

ifica

nt e

ffec

t on

dom

estic

wag

es.

Thes

e re

sults

are

con

sist

ent

with

the

fre

quen

tly

empl

oyed

ass

umpt

ions

in th

e pu

blic

fin

ance

lite

ratu

re th

at c

apita

l is

high

ly m

obile

, but

labo

r is n

ot.

Und

er th

ese

cond

ition

s lab

or w

ill b

ear t

he b

urde

n of

labo

r tax

es, a

nd b

ear o

r

shar

e th

e bu

rden

of c

apita

l tax

es.

2

I.In

trod

uctio

n

Taxe

s di

stor

t in

cent

ives

for

eco

nom

ic a

gent

s. C

orpo

rate

tax

es r

aise

the

cos

t of

capi

tal

for

the

busi

ness

ow

ner,

thus

red

ucin

g th

e de

man

d fo

r ca

pita

l. H

owev

er,

the

inci

denc

e of

the

corp

orat

e ta

x ne

ed n

ot fa

ll so

lely

on

capi

tal.

Low

er in

vest

men

t in

capi

tal

may

lead

to lo

wer

cap

ital p

er w

orke

r, lo

wer

wor

ker p

rodu

ctiv

ity, a

nd lo

wer

real

wag

es. 1

Sim

ilarly

, pe

rson

al i

ncom

e ta

xes

dist

ort

the

wor

k-le

isur

e de

cisi

on f

or w

orke

rs.

Hig

h

pers

onal

taxe

s m

ay d

isco

urag

e pa

rtici

patio

n in

the

labo

r mar

ket,

thus

redu

cing

the

supp

ly

of la

bor.

How

ever

, if l

abor

sup

ply

is s

uffic

ient

ly e

last

ic, w

orke

rs m

ay p

ass

on a

sha

re o

f

the

tax

to c

apita

l in

the

form

of

high

er w

ages

. Hen

ce b

oth

corp

orat

e ta

xes

and

pers

onal

inco

me

taxe

s may

aff

ect w

ages

, thr

ough

thei

r im

pact

on

labo

r.

Ther

e is

am

ple

evid

ence

link

ing

natio

nal c

orpo

rate

tax

rate

s to

inve

stm

ent l

evel

s.

Cum

min

s, H

asse

tt an

d H

ubba

rd (

1999

) ha

ve d

ocum

ente

d th

e ne

gativ

e co

rrel

atio

n

betw

een

effe

ctiv

em

argi

nal

corp

orat

e ta

x ra

tes

and

inve

stm

ent

acro

ss a

lar

ge p

anel

of

coun

tries

. If

inve

stm

ent a

nd c

apita

l for

mat

ion

are

a fu

nctio

n of

cor

pora

te ta

x ra

tes,

then

wor

ker p

rodu

ctiv

ity a

nd w

ages

may

be

as w

ell.

To

date

, thi

s lin

k ha

s not

bee

n th

e su

bjec

t

of d

etai

led

econ

omet

ric a

naly

sis.

This

pap

er f

ills

that

gap

in th

e lit

erat

ure,

and

exp

lore

s

the

rela

tions

hip

betw

een

corp

orat

e ta

x ra

tes a

nd w

age

rate

s.

Cap

ital

taxa

tion

does

not

occ

ur i

n a

vacu

um.

Acc

ordi

ngly

, it

is i

mpo

rtant

to

expl

ore

not o

nly

the

impa

ct o

f lev

els

of ta

x va

riabl

es, b

ut a

lso

the

impa

ct o

f rel

ativ

e ta

x

varia

bles

for c

ompe

ting

coun

tries

.

1 See

Aue

rbac

h(2

005)

for a

mor

e re

cent

ana

lysi

s of w

ho b

ears

the

burd

enof

the

corp

orat

e ta

x.

3

The

effe

ct o

f per

sona

l inc

ome

taxe

s on

wor

k ac

tivity

has

bee

n ex

tens

ivel

y st

udie

d

in th

e lit

erat

ure.

Dav

is a

nd H

enre

kson

(20

04),

amon

g ot

hers

, fin

d th

at h

ighe

r ta

x ra

tes

redu

ce w

ork

time

in t

he m

arke

t se

ctor

. How

ever

, the

re a

re n

o st

udie

s lin

king

per

sona

l

inco

me

tax

rate

s an

d w

age

rate

s. Ta

ken

in t

his

cont

ext,

our

pape

r fit

s in

to t

he l

arge

r

publ

ic fi

nanc

e lit

erat

ure

rela

ting

the

tax

on a

com

mod

ity to

its

pric

e. P

oter

ba (1

996)

and

Bes

ley

and

Ros

en (

1994

) ex

amin

e th

e im

pact

of

sale

s an

d lo

cal

taxe

s on

pric

es o

f

com

mod

ities

, in

orde

r to

anal

yze

how

muc

h of

the

pric

e in

crea

se d

ue to

the

tax

is a

ctua

lly

shift

ed t

o co

nsum

ers.

If r

etai

l pr

ices

ris

e by

exa

ctly

the

am

ount

of t

he t

ax,

ther

e is

evid

ence

of

full

tax

shift

ing.

Alo

ng t

he s

ame

lines

, w

e ai

m t

o st

udy

the

effe

ct o

f an

incr

ease

in la

bor i

ncom

e ta

xes

on th

e pr

ice

of la

bor,

and

whe

ther

ther

e is

any

evi

denc

e to

sugg

est t

hat t

ax in

crea

ses

are

shift

ed to

cap

ital t

hrou

gh h

ighe

r w

ages

, thu

s tra

nsfe

rrin

g

som

e of

the

burd

en fr

om la

bor t

o ca

pita

l.

Acc

ordi

ngly

, the

pap

er a

ddre

sses

two

mai

n qu

estio

ns: D

o ta

x ra

tes,

corp

orat

e an

d

pers

onal

inco

me,

sys

tem

atic

ally

aff

ect w

age

rate

s? A

re w

ages

in th

e do

mes

tic e

cono

my

affe

cted

by

taxe

s an

d w

ages

in

com

petin

g ec

onom

ies?

The

se q

uest

ions

are

add

ress

ed

usin

g a

sam

ple

of d

evel

opin

g an

d de

velo

ped

econ

omie

s. O

ur e

mpi

rical

res

ults

indi

cate

that

dom

estic

cor

pora

te ta

xes

are

nega

tivel

y an

d si

gnifi

cant

ly re

late

d to

wag

e ra

tes

acro

ss

coun

tries

. W

e al

so f

ind

that

hig

her

aver

age

wag

es i

n a

coun

try’s

nei

ghbo

rs l

eads

to

high

er d

omes

tic w

ages

. Fur

ther

, hig

h co

rpor

ate

taxe

s in

com

petin

g co

untri

es a

lso

lead

to

high

er d

omes

tic w

ages

. Ta

ken

toge

ther

, our

resu

lts s

ugge

st th

at c

apita

l mov

es fr

om h

igh

tax

to lo

w ta

x co

untri

es, a

nd a

ffec

ts w

ages

.

Our

resu

lts fo

r per

sona

l inc

ome

taxe

s ar

e su

rpris

ing.

We

find

that

tax

rate

s do

not

sign

ifica

ntly

impa

ct w

age

rate

s. Th

is is

con

sist

ent w

ith a

mod

el w

here

in n

o pa

rt of

the 4

incr

ease

in

labo

r ta

xes

is p

asse

d on

to w

ages

. In

suc

h a

mod

el,

labo

r be

ars

the

entir

e

burd

en o

f the

tax.

Sect

ion

II p

rovi

des

a br

ief

theo

retic

al b

ackg

roun

d an

d lit

erat

ure

surv

ey. S

ectio

n

III

disc

usse

s th

e da

ta a

nd p

rese

nts

sum

mar

y st

atis

tics.

Sect

ion

IV d

iscu

sses

pre

limin

ary

regr

essi

on re

sults

. Sec

tion

V c

oncl

udes

.

II. T

he L

inka

ge B

etw

een

Cap

ital T

axat

ion

and

Wag

es

Sinc

e th

e th

eore

tical

lin

kage

bet

wee

n la

bor

taxe

s an

d th

e su

pply

of

labo

r (a

nd

henc

e w

age

rate

s) is

fairl

y st

raig

htfo

rwar

d, w

e w

ill fo

cus

the

disc

ussi

on in

this

sec

tion

on

capi

tal

taxe

s an

d w

ages

. Th

ere

are

man

yex

ant

e re

ason

s to

exp

ect

that

the

lin

kage

s

betw

een

capi

tal

taxa

tion

and

the

wel

fare

of

wor

kers

cou

ld b

e si

gnifi

cant

. Rel

ying

, for

exam

ple,

on

the

Solo

w m

odel

with

a C

obb-

Dou

glas

pro

duct

ion

func

tion

with

lab

or-

augm

entin

g te

chno

logy

:

Y =

F(K

,L)=

K (A

L) (1

-)

The

wag

e eq

uatio

n is

:

kA

LKA

LYw

11

)1(

)1(

whe

rek

is th

e ca

pita

l sto

ck p

er w

orke

r and

A is

the

leve

l of t

echn

olog

y. T

he m

ore

capi

tal

per

wor

ker

(the

grea

ter

the

valu

e of

k),

the

grea

ter

the

wag

e is

. Th

eref

ore,

a l

ower

corp

orat

e ta

x m

ay le

ad to

a la

rger

cap

itals

tock

, whi

ch m

ay b

enef

it th

ose

peop

le a

t the

low

er e

nd o

f the

inco

me

dist

ribut

ion,

who

onl

y ea

rn la

bor i

ncom

e.

5

The

effe

ct m

ight

be

imm

edia

te if

ther

e w

ere

no c

apita

l adj

ustm

ent c

osts

, but

thes

e

are

likel

y to

be

impo

rtant

in p

ract

ice.

It

is n

ot p

laus

ible

, how

ever

, tha

t eno

ugh

capi

tal

coul

d flo

w in

to a

cou

ntry

in a

sin

gle

year

to d

ram

atic

ally

alte

r th

e m

argi

nal p

rodu

ct o

f

labo

r, al

thou

gh th

e ef

fect

cou

ld b

e qu

ite la

rge

in a

ver

y sm

all a

nd u

ndev

elop

ed c

ount

ry.

Acc

ordi

ngly

, we

will

look

for t

hese

eff

ects

ove

r lon

ger t

ime

horiz

ons,

givi

ng th

e ca

pita

l

stoc

k tim

e to

adj

ust t

o th

e lo

wer

tax

rate

s.

Thes

e lin

kage

s can

, in

theo

ry, b

e qu

ite si

gnifi

cant

, and

can

lead

to c

ount

erin

tuiti

ve

resu

lts.

Man

kiw

(200

1), f

or e

xam

ple,

dev

elop

s a

sim

ple

mod

el w

here

in a

uni

on th

at c

an

dict

ator

ially

set

taxe

s on

cap

ital a

nd la

bor c

hoos

es o

ptim

ally

to s

et th

e ca

pita

l tax

to z

ero,

even

tho

ugh

its o

bjec

tive

is s

impl

y th

e m

axim

izat

ion

of w

ages

. In

Man

kiw

’s (

2001

)

mod

el, t

here

are

two

dist

inct

type

s of

age

nts:

wor

kers

and

cap

italis

ts, a

nd tw

o ty

pes

of

taxe

s: c

apita

l ta

xes

and

labo

r ta

xes.

Sinc

e w

orke

rs o

utnu

mbe

r ca

pita

lists

, an

d th

e

hypo

thes

ized

eco

nom

y is

a d

emoc

racy

, w

orke

rs e

ffec

tivel

y ge

t to

dic

tate

the

tax

on

capi

tal a

nd la

bor t

o m

axim

ize

thei

r ow

n w

elfa

re. M

anki

w s

how

s th

at e

ven

in th

is c

onte

xt

wor

kers

wou

ld o

ptim

ally

cho

ose

to s

et t

he c

apita

l ta

x to

zer

o. T

he i

ntui

tion

is t

hat

wor

kers

wou

ld b

e be

tter o

ff w

ith a

hig

her c

apita

l sto

ck, s

ince

that

wou

ld in

crea

se w

orke

r

prod

uctiv

ity a

nd f

eed

thro

ugh

to w

ages

. Th

e th

eore

tical

cas

e fo

r ze

ro c

apita

l ta

xes

is

expl

ored

in g

reat

det

ail i

n tw

o re

cent

revi

ews (

Aue

rbac

h an

d H

ines

, 200

1; Ju

dd 2

001)

.

Of c

ours

e, th

e lin

k w

ould

not

be

inte

rest

ing

if ca

pita

l flo

ws

wer

e un

resp

onsi

ve to

tax

varia

bles

, but

the

oppo

site

app

ears

to b

e th

e ca

se. I

ndee

d, a

s m

entio

ned

earli

er, t

here

are

num

erou

s st

udie

s lin

king

cor

pora

te ta

x ra

tes

to in

vest

men

t lev

els,

both

at a

dom

estic

and

at a

n in

tern

atio

nal l

evel

. The

em

piric

al li

tera

ture

dis

cuss

ed in

Has

sett

and

Hub

bard 6

(200

2), h

as g

ener

ally

fou

nd th

at e

ffec

tive

mar

gina

l tax

rat

es s

igni

fican

tly im

pact

cap

ital

form

atio

n. In a

dditi

on,

rela

tive

treat

men

t ac

ross

cou

ntrie

s ch

ange

s si

gnifi

cant

ly o

ver

time.

Afte

r lar

ge re

duct

ions

in s

tatu

tory

cor

pora

te ta

x ra

tes

by Ir

elan

d, U

K a

nd U

SA in

the

mid

1980

’s,

othe

r O

ECD

cou

ntrie

s al

so c

ut t

heir

rate

s pe

rhap

s ou

t of

a c

once

rn t

hat

they

wou

ld lo

se in

vest

men

ts.2 T

he in

tern

atio

nal t

ax li

tera

ture

, rec

ently

sum

mar

ized

by

Gor

don

and

Hin

es (2

002)

and

Dev

ereu

x an

d G

riffit

hs (2

002)

find

s th

at m

obile

cap

ital m

ay o

ften

flow

to lo

w ta

x ju

risdi

ctio

ns. C

ross

-sec

tiona

l stu

dies

suc

h as

Gru

bert

and

Mut

ti (1

991)

and

Hin

es a

nd R

ice

(199

4) e

stim

ate

the

effe

ct o

f nat

iona

l tax

rate

s on

the

dist

ribut

ion

of

aggr

egat

e A

mer

ican

-ow

ned

prop

erty

, pl

ant

and

equi

pmen

t in

198

2. T

hey

repo

rt a

nega

tive

elas

ticity

with

res

pect

to

loca

l ta

x ra

tes.

If t

here

is

a dr

op i

n in

vest

men

t in

rela

tivel

y hi

gh-ta

x co

untri

es, t

his w

ould

redu

ce th

e am

ount

of c

apita

l ava

ilabl

e to

wor

kers

and

thus

red

uce

real

wag

es in

that

cou

ntry

. Hen

ce if

tax

com

petit

ion

is p

reva

lent

, the

n

inve

stm

ent m

ay n

ot o

nly

be in

fluen

ced

by th

e le

vel o

f rat

es b

ut a

lso

by re

lativ

e ra

tes.

To m

ove

to a

n em

piric

al m

odel

of w

ages

, one

nee

ds to

mod

el th

e lin

kage

bet

wee

n

spec

ific

corp

orat

e ta

x va

riabl

es a

nd c

apita

l fo

rmat

ion.

The

lite

ratu

re s

ugge

sts

that

mar

gina

l ta

x ra

tes

may

not

be

the

only

rel

evan

t va

riabl

e. C

orpo

rate

inc

ome

taxe

s m

ay

also

dis

tort

the

ince

ntiv

es f

or i

nter

natio

nal

inve

stm

ent

and

crea

te o

ppor

tuni

ties

for

inte

rnat

iona

l ta

x pl

anni

ng.

If f

irms

loca

te p

lant

s in

low

-tax

juris

dict

ions

, an

d pl

ant

loca

tion

is th

e de

cisi

on a

t the

mar

gin,

then

ave

rage

tax

rate

s m

ay p

lay

an im

porta

nt ro

le

in d

eter

min

ing

inte

rnat

iona

l ca

pita

l flo

ws,

and

wag

es.

Dev

ereu

x an

d G

riffit

hs (

1998

)

conc

lude

s th

at t

he e

ffec

tive

aver

age

tax

rate

pla

y an

im

porta

nt r

ole

in t

he c

hoic

e of

2 “C

orpo

rate

Inco

me

Tax

Rat

es: I

nter

natio

nal C

ompa

rison

s”, N

ovem

ber 2

005,

CB

O

7

inve

stm

ent

loca

tion

with

in E

urop

e. H

owev

er,

they

do

not

find

a si

gnifi

cant

rol

e fo

r

effe

ctiv

e m

argi

nal t

ax ra

tes.

Tabl

es 2

and

3 r

epor

t th

e to

p st

atut

ory

corp

orat

e ta

x ra

tes,

and

aver

age

hour

ly

wag

e ra

tes,

for a

sub

set o

f the

cou

ntrie

s in

our

sam

ple.

The

re is

con

side

rabl

e va

riatio

n in

corp

orat

e ta

x ra

tes

acro

ss c

ount

ries.

For e

xam

ple,

in 1

981,

Aus

tralia

had

a to

p co

rpor

ate

tax

rate

of

45 p

erce

nt, w

hile

Bol

ivia

’s h

ighe

st r

ate

was

30

perc

ent.

Als

o, th

ere

has

been

cons

ider

able

var

iatio

n in

cor

pora

te ta

x ra

tes

over

tim

e; c

orpo

rate

tax

rate

s ha

ve te

nded

to

decl

ine

over

the

last

twen

ty y

ears

. Fo

rins

tanc

e, a

mon

g th

e O

ECD

eco

nom

ies,

Aus

tralia

expe

rienc

ed a

dec

line

in c

orpo

rate

tax

rat

es f

rom

46

perc

ent

in 1

985

to 3

0 pe

rcen

t in

2001

. O

ver

the

sam

e pe

riod,

am

ong

non-

OEC

D e

cono

mie

s, C

hile

exp

erie

nced

a d

rop

from

46

perc

ent t

o 16

per

cent

. The

se m

ovem

ents

are

als

o ap

pare

nt in

eff

ectiv

e av

erag

e

and

effe

ctiv

e m

argi

nal t

ax ra

tes (

Figu

re 1

).3

At t

he s

ame

time,

ave

rage

hou

rly w

age

rate

s, w

hich

are

aff

ecte

d by

man

y th

ings

in a

dditi

on to

tax

rate

s, ha

ve g

ener

ally

incr

ease

d ov

er ti

me

for m

ost c

ount

ries

(Fig

ure

2).

In A

ustra

lia, t

he a

vera

ge d

olla

r wag

e pe

r hou

r wen

t up

by 1

7.5

perc

ent o

ver t

his

perio

d,

whi

le i

n C

hile

, th

e co

rres

pond

ing

incr

ease

was

18.

75 p

erce

nt.

Figu

re 2

als

o sh

ows

a

dow

nwar

d tre

nd in

ave

rage

per

sona

l inc

ome

tax

rate

s. Th

e de

clin

e ha

s be

en s

teep

er f

or

the

OEC

D e

cono

mie

s, bu

t the

OEC

D e

cono

mie

s, on

ave

rage

, exp

erie

nced

hig

her r

ates

of

pers

onal

taxa

tion

than

non

-OEC

D e

cono

mie

s.

To d

ate,

stu

dies

see

king

to

expl

ain

the

cros

s-co

untry

var

iatio

n in

wag

e gr

owth

have

not

focu

sed

on th

e ro

le o

f cap

ital t

axat

ion.

Rod

rik (1

999)

find

s th

at th

ere

is a

robu

st

3 An

effe

ctiv

em

argi

nal t

ax ra

te is

the

perc

enta

ge o

f the

inco

me

from

a m

argi

nal i

nves

tmen

t tha

t mus

t be

paid

as c

orpo

rate

inco

me

taxe

s. Th

ese

rate

s are

aff

ecte

d by

rule

s for

dep

reci

atio

n of

pro

duct

ive

asse

ts a

ndot

her f

eatu

reso

f the

tax

code

.

8

and

stat

istic

ally

sig

nific

ant a

ssoc

iatio

n be

twee

n th

e ex

tent

of d

emoc

racy

and

the

leve

l of

man

ufac

turin

g w

ages

in

a

coun

try.

This

ho

lds

even

af

ter

cont

rolli

ng

for

labo

r

prod

uctiv

ity a

nd p

er c

apita

inc

omes

. Fr

eem

an a

nd O

sten

dorp

(20

00)

expl

ain

cros

s-

coun

try d

iffer

ence

s in

ter

ms

of t

he l

evel

of

gros

s do

mes

tic p

rodu

ct p

er c

apita

and

unio

niza

tion

and

wag

e se

tting

inst

itutio

ns. R

ama

(200

3) c

oncl

udes

that

in th

e sh

ort r

un,

wag

es fa

ll w

ith o

penn

ess

to tr

ade

and

rise

with

fore

ign

dire

ct in

vest

men

t, bu

t afte

r a fe

w

year

s th

e ef

fect

of

trade

on

wag

es i

s re

vers

ed.

At

a m

icro

lev

el,

the

wid

enin

g w

age

dist

ribut

ion

in th

e U

nite

d St

ates

has

bee

n ex

plai

ned

in te

rms

of d

e-un

ioni

zatio

n an

d th

e

eros

ion

of t

he r

eal

valu

e of

the

min

imum

wag

e (D

iNar

do, F

ortin

and

Lem

ieux

, 199

6).

Car

d, K

ram

arz

and

Lem

ieux

(19

96)

sim

ilarly

em

phas

ize

labo

r m

arke

t rig

iditi

es a

s

impo

rtant

fac

tors

. Kat

z (1

999)

poi

nts

to th

e in

crea

sing

use

of

com

pute

rs a

nd c

ompu

ter

base

d te

chno

logi

es a

s af

fect

ing

the

rela

tive

dem

and

for

skill

ed w

orke

rs,

and

wag

e

ineq

ualit

y.

Oth

er p

aper

s, su

ch a

s D

avis

and

Hen

reks

on (

2004

) st

udy

the

effe

ct o

f hi

gh

pers

onal

inco

me

tax

rate

s on

hou

rs w

orke

d in

the

mar

ket s

ecto

r an

d ot

her

labo

r m

arke

t

outc

omes

. So

me

pape

rs a

lso

stud

y th

e ef

fect

of

fore

ign

dire

ct i

nves

tmen

t on

wag

e

dete

rmin

atio

n in

a s

patia

l set

ting.

Fee

nstra

and

Han

son

(199

5) fi

nd th

at in

crea

sed

fore

ign

dire

ct in

vest

men

t in

Mex

ico,

just

acr

oss

the

US

bord

er, c

ause

d an

incr

ease

in th

e re

lativ

e

wag

es o

f sk

illed

wor

kers

, in

bot

h co

untri

es a

long

the

bor

der.

They

, ho

wev

er,

did

not

expl

icitl

y m

odel

or

estim

ate

this

rel

atio

nshi

p us

ing

regr

essi

on a

naly

sis

or s

patia

l

econ

omet

rics t

echn

ique

s.

III.

Dat

a an

d E

mpi

rica

l Mod

el

The

data

cov

er th

e pe

riod

1981

-200

3 an

d in

clud

e 72

cou

ntrie

s.

9

Our

bas

ic a

ppro

ach

is t

o fo

llow

Rod

rik (

1999

), bu

t to

inc

lude

tax

var

iabl

es a

s

wel

l.4 Tha

t is,

we

estim

ate

a fix

ed e

ffec

ts m

odel

with

the

(fiv

e ye

ar a

vera

ge) L

og w

age

rate

per

hou

r (in

man

ufac

turin

g) a

s th

e de

pend

ent

varia

ble,

and

beg

inni

ng o

f pe

riod

valu

es o

f oth

er v

aria

bles

such

as L

og C

orpo

rate

Tax

Rat

es, L

og V

alue

Add

ed (p

er w

orke

r

in m

anuf

actu

ring)

and

Log

con

sum

er p

rice

inde

x as

the

inde

pend

ent v

aria

bles

. We

also

incl

ude

fixed

yea

r ef

fect

s. Fo

llow

ing

Dev

ereu

x et

al.

(199

8) w

e pr

esen

t re

sults

with

diff

eren

t mea

sure

s of

the

corp

orat

e ta

x ra

tes,

such

as

the

top

natio

nal c

orpo

rate

tax

rate

,

the

effe

ctiv

e m

argi

nal a

nd th

e ef

fect

ive

aver

age

corp

orat

e ta

x ra

te. I

n ad

ditio

n, w

e pr

esen

t

resu

lts w

ith th

e sp

atia

l var

iabl

es in

clud

ed in

the

anal

ysis

, suc

h as

wei

ghte

d av

erag

e ta

x

rate

s and

wei

ghte

d av

erag

e w

age

rate

s. Th

ese

capt

ure

the

effe

ct o

f spa

tial t

ax c

ompe

titio

n

and

spat

ial w

age

effe

cts a

cros

s cou

ntrie

s.

The

depe

nden

t var

iabl

e in

the

empi

rical

ana

lysi

s is t

he a

vera

ge d

olla

r wag

e ea

rned

in m

anuf

actu

ring

per

hour

. Th

e m

ain

sour

ce o

f da

ta o

n w

ages

is

the

Labo

r St

atis

tics

data

base

ava

ilabl

e fr

om t

he I

nter

natio

nal

Labo

r O

rgan

izat

ion

(http

://la

bors

ta.il

o.or

g/).

This

sour

ce p

rovi

des i

nfor

mat

ion

on w

ages

for a

bro

ad sa

mpl

e of

cou

ntrie

s, fo

r the

per

iod

1981

-200

3. T

hese

fig

ures

are

pro

vide

d in

loc

al c

urre

ncy

term

s an

d w

e ha

ve c

onve

rted

them

to

US

dolla

rs u

sing

exc

hang

e ra

tes

prov

ided

by

the

Penn

Wor

ld T

able

s. Th

e

depe

nden

t dat

a ar

e th

eref

ore

in n

omin

al te

rms,

alth

ough

a p

rice

defla

tor i

s al

so in

clud

ed

in th

e re

gres

sion

. Th

at is

, we

take

a s

peci

ficat

ion

for

the

real

wag

e, a

nd r

earr

ange

it s

o

that

the

defla

tor i

s an

exp

lana

tory

var

iabl

e. T

his

spec

ifica

tion

follo

ws

Rod

rik. 5 W

e tri

ed

spec

ifica

tions

with

the

real

wag

e as

the

depe

nden

t var

iabl

e i.e

the

nom

inal

wag

e de

flate

d

by th

e C

PI. R

esul

ts w

ere

sim

ilar.

4 We

disc

ussl

ater

why

we

do n

ot in

clud

e de

moc

racy

as a

nex

plan

ator

y va

riabl

e,w

hich

Rod

rik (1

999)

doe

s. 10

Inte

rnat

iona

l co

mpa

rabi

lity

of t

he d

ata

is m

ade

poss

ible

thr

ough

use

of

vario

us

cont

rols

for

diff

eren

ces

in c

over

age

and

defin

ition

s. In

mos

t cou

ntrie

s, th

e st

atis

tics

on

wag

es re

fer t

o “w

ages

and

sal

arie

s” w

hich

incl

ude

dire

ct w

ages

and

sal

arie

s, bo

nuse

s an

d

grat

uitie

s, et

c w

here

as in

som

e co

untri

es th

ey r

efer

to “

earn

ings

”, w

hich

incl

ude,

mor

e

broa

dly,

all

com

pens

atio

n su

ch a

s em

ploy

ers’

con

tribu

tion

to s

ocia

l sec

urity

, pen

sion

and

insu

ranc

e sc

hem

es.

We

then

con

verte

d th

ese

tota

l w

age

paym

ents

to

hour

ly w

age

paym

ents

by

divi

ding

by

the

tota

l nu

mbe

rof

hou

rs w

orke

d, d

ata

for

whi

ch w

as a

gain

obta

ined

fro

m th

e IL

O. W

e ch

eck

for

the

robu

stne

ss o

f em

piric

al r

esul

ts w

hen

cont

rols

for d

iffer

ence

s in

cov

erag

e ar

e in

clud

ed. T

he d

ata

are

disc

usse

d in

det

ail i

n th

e ap

pend

ix.

Ave

rage

wag

es h

ave

been

risi

ng o

ver t

he p

erio

d 19

81-2

003

for a

ll co

untri

es, t

houg

h th

ere

is w

ide

varia

tion

in c

ount

ries b

oth

cros

s-se

ctio

nally

and

ove

r tim

e.

The

othe

r key

var

iabl

es in

this

pap

er a

re th

e ta

x ra

te v

aria

bles

. For

thes

e w

e dr

aw

on a

new

sou

rce,

the

AEI

Int

erna

tiona

l Ta

x D

atab

ase.

Fro

m t

he r

aw t

ax r

ates

, w

e

calc

ulat

e th

ree

mea

sure

s of

cor

pora

te t

ax r

ates

: to

p na

tiona

l ta

x ra

te, e

ffec

tive

aver

age

and

effe

ctiv

e m

argi

nal t

ax ra

tes.

Thei

r der

ivat

ion

follo

ws

Dev

ereu

x an

d G

riffit

hs (1

999)

.

We

cont

rol

for

diff

eren

ce i

n in

com

e ta

xatio

n as

wel

l. To

do

this

, we

use

aver

age

and

med

ian

pers

onal

inc

ome

tax

rate

s fr

om t

he A

EI I

nter

natio

nal

Tax

Dat

abas

e.6

The

tax

data

base

has

info

rmat

ion

on th

e nu

mbe

r of t

ax b

rack

ets a

nd th

e co

rres

pond

ing

tax

rate

for

each

cou

ntry

. We

cons

truct

ed a

vera

gean

d m

edia

n ta

x ra

tes u

sing

thes

e.

Oth

er v

aria

bles

incl

ude

the

valu

e ad

ded

per

wor

ker

(in m

anuf

actu

ring,

con

stan

t

1990

dol

lars

) and

trad

e as

a fr

actio

n of

GD

P (a

vaila

ble

from

the

ILO

KIL

M d

atab

ase)

to

mea

sure

ope

nnes

s. To

con

trol f

or th

e ef

fect

of p

rices

, we

incl

ude

the

log

of th

e co

nsum

er

pric

e in

dex.

Thi

s va

riabl

e ca

ptur

es c

ost-o

f-liv

ing

diff

eren

ces

not

capt

ured

by

exch

ange

6 Acc

ess t

o th

eA

EI In

tern

atio

nal T

axD

atab

ase

can

be p

rovi

ded

by w

ritin

gto

the

auth

ors.

11

rate

con

vers

ions

. W

e al

so e

xper

imen

t w

ith a

dditi

onal

var

iabl

es s

uch

as t

he l

evel

of

scho

olin

g, c

ompu

teriz

atio

n an

d ur

bani

zatio

n, h

ighl

ight

ed b

y ot

her p

aper

s in

the

liter

atur

e.

To a

llow

for t

he e

ffec

t of l

abor

mar

ket i

nstit

utio

ns, w

e us

e tw

o va

riabl

es. O

ne o

f

thes

e m

easu

res

the

perc

enta

ge o

f w

orke

rs in

a c

ount

ry c

over

ed b

y co

llect

ive

barg

aini

ng

agre

emen

ts, a

s a

perc

ent o

f tot

al s

alar

ied

or d

epen

dent

wor

kers

. The

sec

ond

is a

bro

ader

mea

sure

whi

ch is

a c

ount

of

the

cum

ulat

ive

num

ber

of I

LO c

onve

ntio

ns r

atifi

ed b

y th

e

coun

try. T

he I

LO c

onve

ntio

ns in

clud

e ra

tific

atio

n of

con

vent

ions

on

child

labo

r, fo

rced

or c

ompu

lsor

y la

bor,

disc

rimin

atio

n, t

he r

ight

to

orga

nize

and

the

rig

ht t

o ba

rgai

n

colle

ctiv

ely.

Thu

s th

e gr

eate

r th

e nu

mbe

r of

rat

ified

con

vent

ions

, th

e gr

eate

r th

e

prot

ectio

n of

wor

kers

rig

hts.

Info

rmat

ion

on th

ese

varia

bles

is a

vaila

ble

from

the

Fras

er

Inst

itute

’s E

cono

mic

Fre

edom

of

the

Wor

ldda

tase

t and

the

Wor

ld B

ank

Labo

r M

arke

t

Dat

abas

e (W

BLM

D),

(Ram

a, 1

996)

, res

pect

ivel

y.

Follo

win

g R

odrik

(199

9), i

deal

ly w

e w

ould

like

to in

clud

e bo

th th

e le

vel o

f gro

ss

dom

estic

pr

oduc

t (G

DP)

pe

r ca

pita

(a

vaila

ble

from

Pe

nn

Wor

ld

Tabl

es)

and

man

ufac

turin

g V

alue

Add

ed (M

VA

) per

wor

ker (

cons

tant

dol

lars

) in

the

sam

e re

gres

sion

.

In c

ase

all c

hang

es in

pro

duct

ivity

are

not

cap

ture

d by

MV

A, s

ome

shou

ld s

how

in th

e

estim

ated

coe

ffic

ient

on

aggr

egat

e G

DP.

How

ever

, our

mea

sure

of

MV

A i

s no

isy.

We

obta

ined

MV

A d

ata

from

thr

ee s

ourc

es:

Key

Ind

icat

ors

of t

he L

abor

Mar

ket

(ILO

),

WB

LMD

(Ram

a, 1

996)

and

UN

IDO

. The

pro

blem

we

face

d w

as o

ne o

f mis

sing

dat

a fo

r

our s

ampl

e of

cou

ntrie

s and

yea

rs. T

he IL

O d

atab

ase

has m

ore

info

rmat

ion

on to

tal V

alue

Add

ed a

cros

s al

l se

ctor

s, ra

ther

tha

n V

alue

Add

ed o

nly

in M

anuf

actu

ring.

The

Wor

ld

Ban

k da

taba

se p

rovi

ded

info

rmat

ion

for

sele

cted

cou

ntrie

s on

ly u

ptil

1993

, w

hile

the

12

UN

IDO

dat

abas

e ag

ain

had

lots

of m

issi

ng v

alue

s fo

r the

cou

ntrie

s in

our

sam

ple.

7 Thu

s

our b

est o

ptio

n w

as to

use

the

ILO

tota

l Val

ue A

dded

dat

a as

a p

roxy

for M

VA

. For

the

coun

tries

that

do

repo

rt M

VA

, we

have

incl

uded

that

dat

a. T

he c

orre

latio

n be

twee

n th

is

varia

ble

and

the

GD

P va

riabl

e is

hig

h, a

bove

0.7

0. H

ence

whi

le w

e ge

t sim

ilar

resu

lts

with

the

tw

o va

riabl

es,

we

repo

rt re

sults

usi

ng t

he V

alue

Add

ed v

aria

ble

to m

easu

re

prod

uctiv

ity.8

Fina

lly, w

e in

clud

e in

the

regr

essi

on a

naly

sis

wei

ghte

d av

erag

es o

f ta

x ra

tes

and

wag

e ra

tes

in c

ompe

ting

coun

tries

, fol

low

ing

the

stan

dard

spa

tial r

egre

ssio

n lit

erat

ure

as

sum

mar

ized

by

A

nsel

in

(199

9).

The

spat

ial

wei

ghts

m

atrix

ta

kes

the

form

,

Wt=

[W' 1t

.,……

…..,

W' Nt

.]'. A

t any

tim

e t,

the

ith ro

w o

f thi

s m

atrix

is g

iven

by

Wit,

whi

ch

spec

ifies

“ne

ighb

orho

od s

ets”

for

eac

h ob

serv

atio

n i.

The

ij-th

ele

men

t of

Wt,

nam

ely,

wij,

t, is

pos

itive

ifj i

s a

“nei

ghbo

r” o

f i, a

nd is

zer

o ot

herw

ise.

In o

ur m

odel

, we

cons

ider

man

y fo

rms

of th

e w

eigh

ting

mat

rix. O

ne is

bas

ed o

n re

gion

al e

cono

mic

wei

ghts

. In

this

,

the

coun

tries

are

ass

igne

d to

be

“nei

ghbo

rs”

if th

ey a

re in

the

sam

e re

gion

as

coun

try i.

For

exam

ple,

Zam

bia

wou

ld h

ave

as i

ts n

eigh

bors

, Zi

mba

bwe,

Mal

awi

and

Mau

ritiu

s

sinc

e th

ey a

re a

ll in

the

East

Afr

ican

regi

on, b

ut w

ould

not

incl

ude

Bol

ivia

, Aus

tralia

etc

sinc

e th

ey a

re in

oth

er re

gion

s. C

ount

ries

with

in th

e sa

me

regi

on w

ould

then

be

wei

ghte

d

by th

eir

GD

P. A

sec

ond

form

of

the

wei

ghtin

g m

atrix

is b

ased

on

Inco

me

wei

ghts

i.e.

coun

tries

with

in t

he s

ame

inco

me

grou

p, s

uch

as h

igh

inco

me,

low

inc

ome,

or

uppe

r

7 Rod

rik

(199

9)us

es

two

sam

ples

. Th

e B

LS

sam

ple

cove

rs

the

perio

d19

75-1

994,

whi

le

the

WB

LMD

/UN

IDO

sam

ple

cove

rs th

e pe

riod

1960

-199

4. T

here

fore

he

does

not

face

a s

imila

r pro

blem

. The

num

ber

ofob

serv

atio

ns i

n th

e U

NID

Oda

ta f

or o

ur s

ampl

e is

754

, in

WB

LMD

, 725

and

in

ILO

1305

.Ev

en t

houg

h th

e sa

mpl

e si

ze d

rops

by a

lot

whe

n w

e co

nsid

er t

he U

NID

O d

ata

(afte

r ta

king

fiv

e ye

arav

erag

es a

nd i

nclu

ding

othe

r va

riabl

es i

n th

e re

gres

sion)

, it

is c

omfo

rting

to

note

tha

t w

e ar

e ab

leto

repr

oduc

e ou

r mai

nre

sults

dis

cuss

edla

ter.

8 The

coe

ffic

ient

on

corp

orat

e ta

xes i

s neg

ativ

e an

d si

gnifi

cant

, eve

n w

hen

we

incl

ude

both

GD

P an

d M

VA

in th

e an

alys

is. A

lso,

if w

e us

e on

ly th

e co

untri

es w

ith m

anuf

actu

ring

valu

e ad

ded

data

in th

eIL

O sa

mpl

e,an

d us

e 3-

year

aver

ages

(to in

crea

se sa

mpl

e si

ze),

we

are

still

abl

e to

repr

oduc

e ou

r res

ults

.

13

mid

dle

inco

me

etc

are

clas

sifie

d as

nei

ghbo

rs. T

hese

cou

ntrie

s ar

e th

en w

eigh

ted

by th

eir

GD

P. T

he th

ird k

ind

of w

eigh

ting

we

used

was

to a

ssig

n di

stan

ce w

eigh

ts to

cou

ntrie

s

with

in th

e sa

me

inco

me

grou

p.

Thes

e w

eigh

ting

mat

rices

wer

e us

ed to

cre

ate

wei

ghte

d av

erag

es o

f cor

pora

te ta

x

rate

s an

d w

age

rate

s in

“ne

ighb

or”

coun

tries

. In

som

ewha

t mor

e de

tail,

the

ijth

elem

ent

of th

e w

eigh

ting

mat

rix a

t tim

et,

is,

kik

t

ijtijt

GD

P

GD

Pw

w

here

k is

the

num

ber o

f “ne

ighb

or”

coun

tries

for c

ount

ry i.

The

wei

ghtin

g m

atrix

bas

ed o

n di

stan

ce i

s de

fined

in

a si

mila

r m

anne

r. B

y

conv

entio

n, a

cro

ss s

ectio

nal u

nit i

s no

t a n

eigh

bor t

o its

elf,

so th

at th

e di

agon

al e

lem

ents

ofW

t are

all

zero

i.e

wii,

t=0.

B.

Sum

mar

y St

atis

tics

Sum

mar

y st

atis

tics

for

the

core

var

iabl

es a

re p

rese

nted

in T

able

1. T

he a

vera

ge

wag

e fo

r the

OEC

D e

cono

mie

s fo

r thi

s pe

riod

was

nea

rly $

9 pe

r hou

r, w

here

as fo

r Non

-

OEC

D e

cono

mie

s it

was

$2.

50. S

urpr

isin

gly,

how

ever

, the

mea

n to

p co

rpor

ate

tax

rate

was

sim

ilar-

arou

nd 3

5 pe

rcen

t-for

bot

h se

ts o

f cou

ntrie

s. A

vera

ge p

erso

nal i

ncom

e ta

xes

wer

e la

rger

for

the

OEC

D e

cono

mie

s (.3

1) t

han

for

the

non-

OEC

D e

cono

mie

s (.2

3).

Ave

rage

wag

es n

early

dou

bled

for

bot

h O

ECD

and

Non

-OEC

D e

cono

mie

s ov

er t

his

perio

d, a

nd c

orpo

rate

tax

rate

s de

clin

ed b

y sl

ight

ly le

ss th

an h

alf.

As

show

n in

Fig

ures

1

and

2, o

n av

erag

e fo

r al

l co

untri

es,

corp

orat

e an

d pe

rson

al i

ncom

e ta

xes

have

bee

n

decl

inin

g ov

er th

e sa

mpl

e pe

riod

1981

-200

3. T

his

is tr

ue f

or th

e to

p na

tiona

l cor

pora

te

tax

rate

, as w

ell a

s the

eff

ectiv

e m

argi

nal a

nd a

vera

ge ta

x ra

tes.

At t

he sa

me

time,

ave

rage

hour

ly w

age

rate

s ha

ve b

een

risin

g ov

er t

ime.

The

ave

rage

cor

pora

te t

ax r

ate

for

all

14

coun

tries

wen

t do

wn

from

42

perc

ent

in 1

981

to a

roun

d 29

per

cent

in

2000

.9 For

the

sam

e pe

riod,

ave

rage

wag

e ra

tes i

ncre

ased

from

3.5

dol

lars

per

hou

r to

6 do

llars

per

hou

r.

The

corr

elat

ion

betw

een

thes

e tw

o va

riabl

es w

as la

rger

for

the

OEC

D c

ount

ries

(.355

)

than

for

the

non-

OEC

D c

ount

ries.

This

is a

lso

refle

cted

in th

e la

rge

nega

tive

coef

ficie

nt

on ta

x ra

tes i

n a

regr

essi

on o

f tax

rate

s on

aver

age

wag

es fo

r OEC

D c

ount

ries (

Figu

re 3

).

IV. R

egre

ssio

n R

esul

ts

For

purp

oses

of

th

e em

piric

al

anal

ysis

, w

e ha

ve

grou

ped

the

data

in

to

nono

verla

ppin

g fiv

e ye

ar p

erio

ds c

over

ing

five

sub-

perio

ds o

ver

1981

-200

2.10

The

aver

age

wag

e is

a f

ive

year

ave

rage

of

each

of

the

sub-

perio

ds. N

ote

that

the

ave

rage

wag

e is

in

nom

inal

dol

lar

term

s. T

his

is R

odrik

’s (

1999

) sp

ecifi

catio

n, b

ut w

ith t

ax

varia

ble

adde

d.11

For

the

right

han

d si

de v

aria

bles

, we

use

the

begi

nnin

g of

per

iod

valu

es.

Tabl

e 4

pres

ents

the

firs

t se

t of

reg

ress

ion

resu

lts.

All

the

regr

essi

ons,

unle

ss

othe

rwis

e st

ated

, ar

e es

timat

ed u

sing

fix

ed e

ffec

ts.

All

spec

ifica

tions

als

o co

ntro

l fo

r

perio

d (ti

me)

dum

mie

s. Th

e m

ain

varia

bles

of i

nter

est i

n th

is p

aper

are

the

corp

orat

e ta

x

rate

and

the

per

sona

l in

com

e ta

x ra

te.

Reg

ress

ions

in

Tabl

e 4

use

the

top

natio

nal

corp

orat

e ta

x ra

te a

s th

e ex

plan

ator

y va

riabl

e. R

esul

ts w

ith o

ther

mea

sure

s of

cor

pora

te

taxe

s, su

ch a

s eff

ectiv

e av

erag

e an

d m

argi

nal c

orpo

rate

tax

rate

s are

pre

sent

ed in

Tab

le 5

.

The

corp

orat

e ta

x ra

te v

aria

ble

is n

egat

ive

and

high

ly s

igni

fican

t. (p

=.00

5) in

the

wag

e

equa

tion.

Thi

s re

sult

is f

airly

sta

ble

acro

ss d

iffer

ent

spec

ifica

tions

, an

d de

clin

es i

n

9 The

cou

ntrie

swith

the

high

est c

orpo

rate

tax

rate

s wer

e B

elgi

um, I

taly

and

Tur

key,

with

rate

s clo

se to

40

perc

ent.

10 T

he su

b-pe

riods

are

1981

-198

5,19

86-1

990,

199

1-19

95,1

996-

2000

,200

1-20

0211

Rod

rik(1

999)

has

a s

peci

ficat

ion

with

log

nom

inal

wag

es a

s th

ede

pend

ent

varia

ble.

He,

how

ever

,ac

know

ledg

esth

e po

ssib

ility

of s

purio

us e

ffec

ts a

risin

gfr

om w

age

and

pric

e in

flatio

n. T

here

fore

, in

one

ofhi

s sp

ecifi

catio

ns

usin

gW

MB

LD/U

NID

O

data

, he

divi

des

the

nom

inal

w

age

per

hour

by

the

Man

ufac

turin

g V

alue

Add

ed (M

VA

)per

hour

, and

that

beco

mes

the

depe

nden

tvar

iabl

e.

15

sign

ifica

nce

only

mar

gina

lly w

hen

the

num

ber o

f obs

erva

tions

is re

duce

d in

col

umns

(4)-

(5).

The

poin

t es

timat

es s

ugge

st t

hat

a on

e pe

rcen

t in

crea

se i

n co

rpor

ate

tax

rate

s is

asso

ciat

ed w

ith n

early

a 0

.8 p

erce

nt d

ecre

ase

in w

age

rate

s ac

cord

ing

to th

e re

gres

sion

in

Col

umn

(1),

and

on a

vera

ge a

bout

0.9

5 pe

rcen

t dec

reas

e ac

ross

diff

eren

t spe

cific

atio

ns.

In F

igur

e 3

we

pres

ent s

catte

rplo

ts o

f cor

pora

te ta

x ra

tes

and

wag

e ra

tes

for O

ECD

and

Non

-OEC

D c

ount

ries.

In g

ener

al, c

ount

ries

with

hig

h ta

x ra

tes

tend

to h

ave

low

er w

ages

rate

s. A

reg

ress

ion

of a

vera

ge w

ages

on

corp

orat

e ta

x ra

tes

in d

iffer

ent s

ub-s

ampl

es o

f

OEC

D a

nd n

on-O

ECD

eco

nom

ies

yiel

ds a

larg

er s

lope

coe

ffic

ient

in th

e ca

se o

f OEC

D

coun

tries

, su

gges

ting

that

on

aver

age

over

thi

s pe

riod,

cap

ital-w

age

links

hav

e be

en

stro

nger

for t

he O

ECD

cou

ntrie

s.

In o

ur m

odel

, cor

pora

te ta

x ra

tes a

re a

ssum

ed to

aff

ect w

ages

thro

ugh

thei

r im

pact

on c

apita

l-lab

or ra

tios

(inve

stm

ent)

and

wor

ker p

rodu

ctiv

ity. T

o te

st fo

r thi

s, w

e ob

tain

ed

info

rmat

ion

on c

apita

l-lab

or ra

tios

(fro

m th

e Pe

nn W

orld

Tab

les)

, and

est

imat

ed a

2SL

S

regr

essi

on o

f av

erag

e w

ages

on

capi

tal l

abor

rat

ios

usin

g ta

xes

as in

stru

men

ts. T

he f

irst

stag

e re

gres

sion

of

capi

tal

labo

r ra

tios

on c

orpo

rate

tax

rat

es y

ield

ed a

neg

ativ

e an

d

sign

ifica

nt c

oeff

icie

nt o

n co

rpor

ate

tax

rate

s (p

=0.0

48).

In th

e se

cond

sta

ge r

egre

ssio

n,

the

coef

ficie

nt o

n ca

pita

l lab

or ra

tio is

pos

itive

and

sig

nific

ant a

t nea

rly 9

5 pe

rcen

t lev

el

of s

igni

fican

ce (t

-sta

tistic

=1.9

3), w

ith a

coe

ffic

ient

clo

se to

2. T

his

conf

irms

our i

ntui

tion

that

hig

her

corp

orat

e ta

xes

may

fee

d th

roug

h to

low

er w

ages

, th

roug

h lo

wer

cap

ital

inve

stm

ent p

er w

orke

r.

Perh

aps,

surp

risin

gly,

we

find

that

ave

rage

per

sona

l in

com

e ta

x ra

tes

are

insi

gnifi

cant

in

all

spec

ifica

tions

. Lab

or t

axes

do

not

syst

emat

ical

ly a

ffec

t w

ages

. Thi

s

resu

lt ho

lds

even

whe

n w

e dr

op o

ther

var

iabl

es, i

nclu

ding

the

cor

pora

te t

ax v

aria

bles

,

16

from

the

reg

ress

ion

(Col

umn

(3))

. Th

is s

ugge

sts

that

lab

or b

ears

the

ent

ire b

urde

n of

labo

r ta

xes.

Ther

e is

no

shift

ing

of th

e ta

x to

cap

ital i

n th

e fo

rm o

f hi

gher

wag

es. T

his

resu

lt is

in li

ne w

ith D

avis

and

Hen

reks

on (2

004)

. The

y co

nclu

de th

at th

e m

anuf

actu

ring

sect

or is

rela

tivel

y in

sens

itive

to p

erso

nal t

ax ra

tes,

beca

use

man

ufac

turin

g pr

oduc

tion

is

high

ly c

apita

l int

ensi

ve, l

arge

r firm

s an

d es

tabl

ishm

ents

pre

dom

inat

e, a

nd th

e w

orkf

orce

is h

ighl

y sp

ecia

lized

. The

y fin

d in

cro

ss-c

ount

ry d

ata

a st

atis

tical

ly in

sign

ifica

nt e

ffec

t of

labo

r ta

x ra

tes

on m

anuf

actu

ring’

s sh

are

of t

otal

em

ploy

men

t. Th

us i

t is

lik

ely

that

man

ufac

turin

g w

ages

to

o ar

e un

resp

onsi

ve

to

pers

onal

ta

x ra

tes.

We

re-r

an

the

regr

essi

ons

usin

g m

edia

n pe

rson

al i

ncom

e ta

x ra

tes

as a

n al

tern

ativ

e m

easu

re o

f th

e

typi

cal i

ncom

e ta

x pa

id b

y th

e ty

pica

l man

ufac

turin

g em

ploy

ee, b

ut th

e re

sults

did

not

chan

ge. M

edia

n pe

rson

al ta

xes w

ere

insi

gnifi

cant

in a

ll sp

ecifi

catio

ns.12

The

regr

essi

ons

in c

olum

ns (

1)-(

5) a

lso

reve

al t

hat

MV

A p

er w

orke

r is

a

sign

ifica

nt d

eter

min

ant

of w

age

leve

ls.

Not

sur

pris

ingl

y, h

ighe

r la

bor

prod

uctiv

ity i

s

asso

ciat

ed w

ith h

ighe

r w

ages

. Whe

n Lo

g w

ages

are

reg

ress

ed o

n Lo

g V

alue

Add

ed p

er

wor

ker a

lone

, the

coe

ffic

ient

is s

igni

fican

t and

pos

itive

with

a c

oeff

icie

nt o

f 2.3

and

a t-

stat

istic

of

17.7

4. I

f in

stea

d of

MV

A p

er w

orke

r w

e su

bstit

ute

Log

(GD

P pe

r ca

pita

) in

the

regr

essi

on in

Col

umn

(1),

the

resu

lts a

re s

imila

r. Th

eref

ore,

we

do n

ot p

rese

nt th

em

sepa

rate

ly, a

nd o

ur a

naly

sis w

ill b

e en

tirel

y in

term

s of M

VA

per

wor

ker.13

We

test

ed f

or r

obus

tnes

s of

the

coef

ficie

nt o

n ta

x ra

tes,

by in

clud

ing

addi

tiona

l

varia

bles

. Th

ese

incl

ude

the

leve

l of

sch

oolin

g (m

easu

red

by e

nrol

lmen

t at

diff

eren

t

12 D

avis

and

Hen

reks

on (2

004)

stud

y th

e ef

fect

of l

abor

taxe

s on

subs

titut

ion

away

from

mar

ket a

ctiv

ities

tow

ards

non

-mar

ket a

ctiv

ities

with

in a

cou

ntry

. The

yfin

dth

at th

is k

ind

of su

bstit

utio

n is

muc

h lo

wer

in th

em

anuf

actu

ring

sect

or.

13 A

s men

tione

dbe

fore

,we

are

able

tore

prod

uce

thes

ere

sults

in th

e sm

alle

r UN

IDO

sam

ple

usin

g a

RE

GLS

mod

el a

nd a

sim

ple

OLS

regr

essi

onw

ith re

gion

dum

mie

s, bo

thof

whi

ch im

pose

few

erre

stric

tions

onth

ede

gree

s of f

reed

om.

17

leve

ls o

f sc

hool

ing,

suc

h as

prim

ary,

sec

onda

ry a

nd t

ertia

ry (

ILO

)),

labo

r m

arke

t

regu

latio

ns (a

s mea

sure

d by

the

num

ber o

f ILO

con

vent

ions

ratif

ied

by th

e co

untry

or t

he

perc

ent

of

wor

kers

co

vere

d by

co

llect

ive

barg

aini

ng

agre

emen

ts),

exte

nt

of

com

pute

rizat

ion

(mea

sure

d as

the

est

imat

ednu

mbe

r of

per

sona

l co

mpu

ters

in

use

as a

frac

tion

of th

e po

pula

tion,

ava

ilabl

e fr

om IL

O) a

nd o

penn

ess

(mea

sure

d by

sha

re o

f tot

al

trade

in G

DP)

. Non

e of

thes

e en

ters

sig

nific

antly

, sin

ce w

e co

ntro

l for

labo

r pro

duct

ivity

dire

ctly

.14 T

he e

stim

ated

coe

ffic

ient

on

corp

orat

e ta

x ra

tes

rem

ains

fai

rly s

imila

r ac

ross

diff

eren

t sp

ecifi

catio

ns,

and

is s

igni

fican

t at

eith

er t

he 9

5 or

99

perc

ent

leve

l of

sign

ifica

nce.

Not

e th

at t

he u

se o

f th

e fix

ed e

ffec

ts m

etho

dolo

gy e

limin

ates

cou

ntry

-

spec

ific

idio

sync

rasi

es re

gard

ing

the

type

of c

over

age

prov

ided

on

wag

es a

nd sa

larie

s.

In o

ther

reg

ress

ions

(no

t sho

wn

here

), w

e de

fined

the

depe

nden

t var

iabl

e as

the

real

wag

e, r

athe

r th

an t

he n

omin

al w

age.

Res

ults

wer

e si

mila

r. Th

e co

effic

ient

on

corp

orat

e ta

x ra

tes

was

in

the

sam

e ra

nge

as i

n ot

her

spec

ifica

tions

. Pe

rson

al t

axes

,

med

ian

and

aver

age,

wer

e no

t sig

nific

ant.

We

cont

rolle

d fo

r th

e ef

fect

of

cons

umer

pric

es. I

n ge

nera

l, hi

gher

pric

es m

ay

caus

e w

orke

rs to

bar

gain

for h

ighe

r wag

es. T

his

varia

ble

rem

ains

pos

itive

and

sig

nific

ant

in a

ll sp

ecifi

catio

ns.

We

also

exp

erim

ente

d w

ith o

ther

var

iabl

es s

uch

as t

he s

hare

of

gove

rnm

ent

ente

rpris

es i

n al

l en

terp

rises

, nu

mbe

r of

em

ploy

ees

in s

ervi

ce i

ndus

try o

r ag

ricul

ture

.

How

ever

, non

e of

the

se v

aria

bles

wer

e si

gnifi

cant

whi

le t

he s

ign

on t

he c

orpo

rate

tax

coef

ficie

nt c

ontin

ued

to b

e ne

gativ

e an

d si

gnifi

cant

.

14A

nO

LS r

egre

ssio

nof

ave

rage

wag

es o

n co

rpor

ate

taxe

s, sc

hool

ing

and

(trad

e/G

DP)

(co

ntro

lling

for

regi

onef

fect

s an

d tim

e du

mm

ies)

alo

ne y

ield

s si

gnifi

cant

and

posi

tive

coef

ficie

nts

on s

choo

ling

and

(trad

e/G

DP)

, whi

le s

till y

ield

ing

a ne

gativ

e an

d si

gnifi

cant

coe

ffic

ient

on

corp

orat

e ta

xes.

A re

gres

sion

ofav

erag

e w

ages

on

com

pute

rizat

ion

or n

umbe

rof

ILO

con

vent

ions

alo

ne y

ield

s a

posi

tive

and

stat

istic

ally

sign

ifica

nt im

pact

of t

hese

var

iabl

es.

18

In T

able

5, w

e te

sted

to s

ee if

the

abov

e re

sults

car

ried

over

to o

ther

mea

sure

s of

the

corp

orat

e ta

x ra

te, s

uch

as th

e Ef

fect

ive

Mar

gina

l Tax

Rat

e an

d th

e Ef

fect

ive

Ave

rage

Tax

Rat

e. T

he c

oeff

icie

nt o

n th

e ef

fect

ive

mar

gina

l ta

x ra

te v

aria

ble

is n

egat

ive

and

sign

ifica

nt o

nly

at 9

0 pe

rcen

t lev

el o

f sig

nific

ance

in C

olum

n (1

), w

hile

on

the

effe

ctiv

e

aver

age

tax

rate

var

iabl

e is

sig

nific

ant

at 9

5 pe

rcen

t. In

Col

umns

(3)

and

(4)

we

have

pres

ente

d th

ese

resu

lts

for

the

case

whe

n ou

r sa

mpl

e in

clud

es

only

no

n-O

ECD

econ

omie

s. In

thi

s ca

se,

we

do f

ind

that

eff

ectiv

e av

erag

e ta

xes

mat

ter

mor

e th

an

effe

ctiv

e m

argi

nal t

ax r

ates

. Thi

s su

ppor

ts w

eakl

y th

e re

sults

of

Dev

ereu

x an

d G

riffit

hs

(199

8) a

nd H

asse

tt an

d H

ubba

rd (

2002

) of

the

im

pact

of

tax

rate

s on

inv

estm

ent

for

effe

ctiv

e av

erag

e an

d m

argi

nal t

ax ra

tes,

resp

ectiv

ely.

Res

ults

for t

he o

ther

var

iabl

es a

re

sim

ilar t

o th

ose

in T

able

4.

Tabl

e 6

inco

rpor

ates

mea

sure

s of

ave

rage

tax

rat

es a

nd a

vera

ge w

age

rate

s in

“nei

ghbo

r” c

ount

ries

in th

e re

gres

sion

ana

lysi

s. Th

e do

mes

tic e

cono

my

corp

orat

e ta

x ra

te

varia

bles

con

tinue

to b

e si

gnifi

cant

in th

ese

spec

ifica

tions

. Sin

ce p

erso

nal t

axes

are

foun

d

to b

e in

sign

ifica

nt i

n al

l sp

ecifi

catio

ns,

we

do n

ot i

nclu

de t

hem

in

the

spec

ifica

tions

show

n in

Tab

le 6

. In

tere

stin

gly,

we

find

sign

ifica

nt r

esul

ts f

or t

he s

patia

l va

riabl

es.

Col

umn

(1)

defin

es a

wei

ghte

d av

erag

e of

top

cor

pora

te t

ax r

ates

and

wag

e ra

tes

in

“nei

ghbo

r” c

ount

ries.

“Nei

ghbo

r” c

ount

ries h

ere

are

defin

ed a

s all

thos

e co

untri

es th

at a

re

in th

e sa

me

regi

on, a

s de

scrib

ed b

efor

e. T

he w

eigh

ts th

at w

e us

e fo

r th

ese

coun

tries

are

GD

P w

eigh

ts. T

hus

ever

y co

untry

is w

eigh

ted

by it

s ec

onom

ic s

treng

th in

the

regi

on. I

n

this

spe

cific

atio

n, th

e w

eigh

ted

aver

age

wag

e in

the

regi

on tu

rns

out t

o be

pos

itive

and

sign

ifica

nt. T

here

cou

ld b

e at

leas

t tw

o re

ason

s fo

r th

is r

esul

t. A

n in

crea

se in

wag

es in

neig

hbor

ing

coun

tries

may

incr

ease

cap

ital o

utflo

w fr

om th

ese

regi

ons t

o re

lativ

ely

low

er 19

wag

e ne

ighb

or c

ount

ries,

whi

ch in

turn

may

incr

ease

the

dem

and

for l

abor

, and

hen

ce th

e

wag

e ra

te. S

econ

dly,

hig

h w

ages

in n

eigh

borin

g co

untri

es m

ayca

use

wor

kers

to m

ove

to

the

high

wag

e co

untry

. Thi

s wou

ld c

ause

a d

ecre

ase

in su

pply

of w

orke

rs in

the

rela

tivel

y

low

wag

e co

untry

, whi

ch c

ould

cau

se a

n in

crea

se in

wag

es in

the

low

wag

e co

untry

as

wel

l. Fo

r the

wei

ghte

d av

erag

e ta

x ra

te, t

he c

oeff

icie

nt is

pos

itive

,but

not

sign

ifica

nt.

In C

olum

n (2

), w

e ch

ange

the

spa

tial

neig

hbor

s by

def

inin

g as

nei

ghbo

rs t

hose

coun

tries

that

are

in th

e sa

me

inco

me

grou

p (r

athe

r th

an in

the

sam

e re

gion

). C

ount

ries

with

in t

he s

ame

inco

me

grou

p ar

e th

en w

eigh

ted

by t

heir

resp

ectiv

e G

DP.

Thi

s

spec

ifica

tion

wou

ld b

e ju

stifi

ed i

f w

orke

rs a

re m

ore

likel

y to

mov

e be

twee

n co

untri

es

with

the

sam

e pe

r ca

pita

inco

me

than

fro

m v

ery

high

to v

ery

low

or

vice

-ver

sa. I

n th

is

spec

ifica

tion,

the

wei

ghte

d w

age

varia

ble

is a

gain

pos

itive

and

sig

nific

ant.

In th

is c

ase,

the

wei

ghte

d (to

p co

rpor

ate)

tax

varia

ble

is p

ositi

ve, b

ut n

ot si

gnifi

cant

.15

Col

umn

(3)

pres

ents

res

ults

with

a d

iffer

ent w

eigh

ting

sche

me.

Whi

le n

eigh

bors

cont

inue

to b

e de

fined

in te

rms

of in

com

egr

oups

, the

cou

ntrie

s w

ithin

the

grou

p ar

e no

w

wei

ghte

d us

ing

(inve

rse)

dis

tanc

e w

eigh

ts. T

hus

the

farth

er t

he c

ount

ry, t

he l

ower

the

wei

ght i

t rec

eive

s w

ithin

the

grou

p. I

n th

is s

peci

ficat

ion

both

the

own

regi

on w

age

and

the

own

regi

on (t

op c

orpo

rate

) tax

rate

s are

pos

itive

and

sign

ifica

nt.

Fina

lly,

in C

olum

n (4

), w

e re

-ran

the

reg

ress

ion

usin

g as

a m

easu

re o

f th

e

dom

estic

and

inte

rnat

iona

l tax

rat

es, t

he e

ffec

tive

mar

gina

l tax

rat

es, i

nste

ad o

f th

e to

p

corp

orat

e ta

x ra

tes.

In th

is s

peci

ficat

ion,

the

inco

me

wei

ghte

d ta

x ra

tes

are

posi

tive

and

15W

hile

we

use

begi

nnin

g of

perio

dva

lues

to e

nsur

e ex

ogen

eity

of r

ight

-han

d si

dere

gres

sors

,we

also

use

2SLS

est

imat

ion

to t

est

for

this

. It’s

poss

ible

tha

t be

ginn

ing

of p

erio

d av

erag

e ne

ighb

or w

ages

may

be

corr

elat

ed w

ith t

he l

eft-h

and

side

depe

nden

t va

riabl

e.W

e th

eref

ore

inst

rum

ent

for

this

var

iabl

ein

the

stan

dard

way

sug

gest

ed in

the

spat

ial e

cono

met

rics

liter

atur

e (A

nsel

in,1

999)

.If o

ur re

gres

sion

mod

elha

sY

as

the

depe

nden

tvar

iabl

e an

dX

,WX

and

WY

as

the

right

-han

d si

de re

gres

sors

,we

inst

rum

ent f

orW

Yus

ing

X, W

Xan

d W

2 X, w

here

W is

the

wei

ghtin

g m

atrix

.Res

ults

did

not c

hang

e in

the

2SLS

spec

ifica

tion. 20

sign

ifica

nt a

t 90

perc

ent l

evel

of s

igni

fican

ce. I

n C

olum

n (5

), w

e us

e th

e G

DP-

wei

ghte

d

aver

age

of t

he e

ffec

tive

aver

age

tax

rate

s in

nei

ghbo

r co

untri

es t

o ca

ptur

e sp

atia

l ta

x

com

petit

ion.

Th

ese

resu

lts

sugg

est

that

ta

x co

mpe

titio

n ex

ists

am

ong

“nei

ghbo

r”

coun

tries

, whe

ther

we

cons

ider

the

top

corp

orat

e ta

x ra

te, e

ffec

tive

mar

gina

l tax

rate

s, or

effe

ctiv

e av

erag

e ta

x ra

tes.

Com

petit

ion

coul

d re

sult

from

bei

ng g

eogr

aphi

c ne

ighb

ors

i.e

coun

tries

with

in th

e sa

me

regi

on, o

r fro

m“e

cono

mic

” ne

ighb

ors

i.e c

ount

ries

in th

e sa

me

inco

me

grou

p.

Tabl

e 7

pres

ents

res

ults

with

the

dem

ocra

cy v

aria

ble

incl

uded

in R

odrik

(19

99),

and

othe

r for

ms

of ta

xes

such

as

VA

T an

d pa

yrol

l tax

es. F

ollo

win

g R

odrik

, we

cons

truct

our

mea

sure

of

dem

ocra

cy u

sing

Fre

edom

Hou

se’s

cla

ssifi

catio

n of

cou

ntrie

s ba

sed

on

polit

ical

rig

hts

and

civi

l lib

ertie

s.16 C

olum

n (1

) sh

ows

that

in a

reg

ress

ion

incl

udin

g th

e

dem

ocra

cy v

aria

ble,

alo

ng w

ith o

ur ta

x ra

te v

aria

ble,

the

coef

ficie

nt o

n th

e de

moc

racy

varia

ble

is in

sign

ifica

nt, w

hile

the

estim

ated

coe

ffic

ient

on

tax

rate

s and

MV

A p

er w

orke

r

cont

inue

to b

e si

gnifi

cant

as

befo

re. U

nlik

e R

odrik

(199

9), w

e do

not

incl

ude

dem

ocra

cy

as a

n ex

plan

ator

y va

riabl

e in

our

bas

elin

e sp

ecifi

catio

n si

nce

a va

riabl

e lik

e de

moc

racy

is

diff

icul

t to

mea

sure

, an

d is

hig

hly

likel

y to

be

corr

elat

ed w

ith o

ther

uno

bser

vabl

es i

n

cros

s-co

untry

reg

ress

ions

. Pe

rsso

n an

d Ta

belli

ni (

2005

) su

gges

t th

at d

emoc

raci

es a

re

corr

elat

ed w

ith o

ther

fea

ture

s of

the

eco

nom

ic s

yste

m, s

uch

as l

iber

aliz

atio

n an

d tra

de

open

ness

, for

m o

f gov

ernm

ent a

nd ty

pe o

f ele

ctor

al ru

le. A

VA

R a

naly

sis

of d

emoc

racy

and

corp

orat

e ta

x ra

tes s

ugge

sts t

hat d

emoc

racy

may

gra

nger

-cau

se c

orpo

rate

tax

rate

s. In

the

polit

ical

sc

ienc

e lit

erat

ure,

H

ays

(200

3),

finds

th

at

inte

rnat

iona

l ca

pita

l ta

x

com

petit

ion

has

the

grea

test

neg

ativ

e im

pact

in m

ajor

itaria

n de

moc

raci

es w

ith c

lose

d

16 F

reed

om H

ouse

rate

s cou

ntrie

s on

a sc

ale

of 1

to7

with

high

er ra

tings

sign

ifyin

g le

ss fr

eedo

m.W

eco

mbi

ne th

e tw

o ra

tings

into

a si

ngle

inde

xth

at v

arie

s fro

m 0

to 1

(with

high

er v

alue

s ind

icat

ing

grea

ter

dem

ocra

cy) b

y us

ing

the

trans

form

atio

n[(

14-c

ivill

ib-p

olrig

hts)

/12]

.

21

econ

omie

s. Th

e pa

per u

ses

a di

ffer

ent m

easu

re o

f dem

ocra

cy, a

nd d

istin

guis

hes

betw

een

maj

orita

rian

and

cons

ensu

s dem

ocra

cies

.

In C

olum

ns (2

) and

(3),

we

test

to se

e if

othe

r for

ms o

f tax

es, s

uch

as v

alue

-add

ed

or s

ales

tax

(VA

T) a

nd (e

mpl

oyer

and

em

ploy

ee) p

ayro

ll ta

xes

affe

ct a

vera

ge w

ages

, and

find

an i

nsig

nific

ant

effe

ct.

In C

olum

n (4

), w

e ad

dres

s th

e qu

estio

n w

heth

er s

ocia

l

secu

rity

cont

ribut

ions

by

empl

oyer

s m

ay b

e dr

ivin

g ou

r re

sults

on

pers

onal

taxe

s. Th

us

we

excl

ude

thos

e co

untri

es w

here

the

wag

e m

easu

re i

nclu

des

cont

ribut

ions

to

soci

al

secu

rity

by e

mpl

oyer

s. A

s w

e ca

n se

e fr

om th

e ta

ble,

this

doe

s no

t cha

nge

our

resu

lts.

Mor

eove

r, an

y di

ffer

ence

s in

the

defin

ition

of w

ages

acr

oss

coun

tries

wou

ld b

e ca

ptur

ed

by th

e fix

ed e

ffec

ts.

Tabl

e 8

pres

ents

res

ults

for

the

case

whe

n th

e la

rge

econ

omie

s (s

elec

ted

on th

e

basi

s of

GD

P) a

re e

xclu

ded

from

the

sam

ple.

The

intu

ition

for t

his

is th

at re

lativ

ely

smal

l

econ

omie

s ar

e m

uch

mor

e lik

ely

to e

xper

ienc

e a

sudd

en s

purt

in p

rodu

ctiv

ity a

nd w

ages

as a

res

ult

of i

ncre

ased

cap

ital

inve

stm

ent

as c

ompa

red

to t

he r

iche

r ec

onom

ies

have

capi

tal s

tock

s th

at a

re la

rge

rela

tive

to th

e w

orld

sup

ply

of in

vest

men

t. H

ence

we

shou

ld

expe

ct to

see

a la

rger

impa

ct o

f cap

ital t

axes

on

wag

es in

thes

e sm

all e

cono

mie

s, in

term

s

of a

lar

ger

size

est

imat

e of

the

coe

ffic

ient

on

tax

rate

s. Th

eref

ore

Col

umn

(1)

first

pres

ents

resu

lts w

ith th

e en

tire

sam

ple

whi

ch se

rves

as a

bas

is o

f com

paris

on. C

olum

n (2

)

pres

ents

res

ults

with

the

top

10

riche

st e

cono

mie

s ex

clud

ed f

rom

the

sam

ple.

As

we

pred

icte

d, th

e co

effic

ient

on

corp

orat

e ta

x ra

tes

incr

ease

s to

1.0

7 fr

om it

s va

lue

of 0

.84

in

Col

umn

(1).

Col

umn

(3)

focu

ses

spec

ifica

lly o

n th

e sm

all o

r po

or e

cono

mie

s. W

e re

-ran

the

regr

essi

on i

nclu

ding

onl

y th

e lo

wes

t G

DP

econ

omie

s in

the

sam

ple.

In

this

cas

e, t

he

22

coef

ficie

nt o

n co

rpor

ate

tax

rate

s in

crea

ses

sign

ifica

ntly

to

1.54

. It

near

ly d

oubl

es i

n

mag

nitu

de c

ompa

red

to C

olum

n (1

). Th

ese

resu

lts su

gges

t tha

t at l

east

in th

e sh

ort-r

un (i

n

the

five

year

per

iod

used

in th

e sa

mpl

e) s

mal

ler e

cono

mie

s ar

e si

gnifi

cant

ly m

ore

likel

y

to re

spon

d to

cor

pora

te ta

x ra

tes

and

see

visi

ble

chan

ges

in p

rodu

ctiv

ity a

nd w

age

rate

s.

Larg

er e

cono

mie

s exp

erie

nce

the

gain

ove

r a lo

nger

tim

e pe

riod.

Fina

lly, a

Hau

sman

tes

t re

veal

ed n

o si

gnifi

cant

diff

eren

ces

in f

ixed

vs.

rand

om

effe

cts

estim

ates

. In

Tabl

e 9

we

pres

ent r

esul

ts u

sing

rand

om e

ffec

ts G

LS e

stim

atio

n an

d

OLS

est

imat

ion,

allo

win

g fo

r re

gion

dum

mie

sin

the

lat

ter

spec

ifica

tion.

Col

umn

(1)

pres

ents

the

ran

dom

eff

ects

est

imat

es.

The

coef

ficie

nt o

n to

p co

rpor

ate

tax

rate

is

nega

tive

and

high

ly s

igni

fican

t with

a t-

stat

istic

of 3

.55.

The

coe

ffic

ient

on

Val

ue a

dded

per w

orke

r in

man

ufac

turin

g is

pos

itive

and

sign

ifica

nt a

t 95

perc

ent l

evel

of s

igni

fican

ce.

The

coef

ficie

nt o

n Lo

g (C

PI)

is p

ositi

ve a

nd s

igni

fican

t, w

hile

that

on

pers

onal

taxe

s is

agai

n in

sign

ifica

nt.

Col

umn

(2)

finds

sim

ilar

resu

lts w

ith O

LS.

Som

e of

the

reg

ion

dum

mie

s ar

e si

gnifi

cant

. Col

umn

(3)

pres

ents

res

ults

usi

ng 3

yea

r av

erag

es o

f th

e w

age

rate

as t

he d

epen

dent

var

iabl

e. R

esul

ts a

re si

mila

r to

thos

e m

entio

ned

for t

he sp

ecifi

catio

n

in C

olum

ns (1

).

To s

umm

ariz

e, o

ur r

esul

ts i

ndic

ate

that

whi

le p

erso

nal

inco

me

tax

rate

s do

not

affe

ct w

ages

, cor

pora

te ta

xes

are

sign

ifica

ntly

rela

ted

to w

age

rate

s ac

ross

cou

ntrie

s. O

ur

coef

ficie

nt e

stim

ates

are

larg

e, ra

ngin

g fr

om 0

.83

to a

lmos

t 1-th

us a

1 p

erce

nt in

crea

se in

corp

orat

e ta

x ra

tes

lead

s to

an

alm

ost e

quiv

alen

t dec

reas

e in

wag

e ra

tes

(in p

erce

ntag

e

term

s). I

f w

e se

t all

varia

bles

to th

eir

aver

age

valu

es, a

n in

crea

se in

cor

pora

te ta

x ra

tes

from

a m

ean

valu

e of

.35

to a

1-s

tand

ard

devi

atio

n in

crea

se o

f .1

0, w

ould

cau

se w

age

rate

s to

dec

line

by m

ore

than

25

perc

ent

(dep

endi

ng o

n th

e re

gres

sion

spe

cific

atio

n).

23

Thus

a lo

w w

age-

high

tax

econ

omy,

like

Mex

ico

(ave

rage

wag

e ov

er th

e pe

riod=

$1.6

7

and

aver

age

tax

rate

=.37

), co

uld

rais

e w

age

leve

ls if

it c

ould

low

er it

’s c

orpo

rate

tax

rate

to th

at o

f C

anad

a’s

(.22)

. A 4

0 pe

rcen

t dro

p in

cor

pora

te ta

x ra

tes

coul

d ra

ise

wag

es b

y

near

ly 3

5 pe

rcen

t, up

to $

2.25

.

Thes

e re

sults

als

o ho

ld f

or e

ffec

tive

mar

gina

l an

d av

erag

e ta

x ra

tes.

The

coef

ficie

nt e

stim

ate

is (o

n av

erag

e) c

lose

to 0

.5, t

houg

h th

e le

vel o

f sig

nific

ance

is lo

wer

.

This

sug

gest

s th

at w

ages

are

as

likel

y to

be

influ

ence

d by

the

top

stat

utor

y co

rpor

ate

tax

rate

, as

by th

e ef

fect

ive

mar

gina

l and

ave

rage

tax

rate

s. H

ence

cor

pora

te ta

x cu

ts in

the

form

of

larg

e al

low

ance

s fo

r de

prec

iatio

n of

equ

ipm

ent

and

stru

ctur

es w

hich

red

uce

effe

ctiv

e m

argi

nal r

ates

cou

ld e

ffec

tivel

y in

fluen

ce w

age

leve

ls a

s wel

l.

We

find

evid

ence

of i

nter

natio

nal t

ax a

nd w

age

com

petit

ion

in th

e da

ta. C

ount

ry

wag

e ra

tes

are

affe

cted

not

onl

y by

dom

estic

tax

rate

s, bu

t als

o ta

x ra

tes

in c

ompe

ting

econ

omie

s. Th

e co

effic

ient

est

imat

es f

or th

e sp

atia

l wag

e an

d ta

x va

riabl

es r

ange

fro

m

0.39

to 0

.56

for

aver

age

neig

hbor

wag

es a

nd 0

.51

to 0

.55

for

the

aver

age

neig

hbor

tax

varia

ble,

sug

gest

ing

sign

ifica

nt q

uant

itativ

eim

pact

s. A

1 p

erce

nt i

ncre

ase

in w

ages

(taxe

s) in

com

petin

g co

untri

es c

ould

rai

se d

omes

tic w

ages

by

0.4

perc

ent (

0.5

perc

ent).

Com

parin

g di

ffer

ent

wei

ghtin

g sc

hem

es,

the

effe

cts

are

larg

est

whe

n “n

eigh

bors

” ar

e

defin

ed a

s co

untri

es w

ithin

the

sam

e in

com

e gr

oup,

rat

her

than

with

in th

e sa

me

regi

on.

This

sug

gest

s th

at t

ax c

ompe

titio

n is

mos

t in

tens

e am

ong,

say

, hi

gh i

ncom

e co

untri

es

such

as

Can

ada,

Fra

nce

and

Italy

, rat

her t

han

betw

een

geog

raph

ic n

eigh

bors

. Thi

s m

akes

sens

e in

tuiti

vely

sin

ce t

here

do

not

appe

ar t

o be

lar

ge t

rans

port

cost

s as

soci

ated

with

mov

ing

capi

tal a

cros

s la

rge

dist

ance

s, so

cap

ital c

an e

asily

flow

to th

e m

ost r

emun

erat

ive

loca

tions

.

24

V. C

oncl

usio

n

The

resu

lts in

this

pap

er s

ugge

st th

at c

orpo

rate

tax

rate

s af

fect

wag

e le

vels

acr

oss

coun

tries

. Hig

her c

orpo

rate

taxe

s le

ad to

low

er w

ages

. A 1

per

cent

incr

ease

in c

orpo

rate

tax

rate

s is

ass

ocia

ted

with

nea

rly a

1 p

erce

ntdr

op in

wag

e ra

tes.

The

intu

ition

for

this

com

es f

rom

a s

impl

e an

alys

is o

f th

e So

low

mod

el th

at r

evea

ls th

at h

ighe

r ca

pita

l lab

or

ratio

s lea

d to

hig

her w

ages

, by

enha

ncin

g w

orke

r pro

duct

ivity

.

We

find

no e

ffec

t of

per

sona

l in

com

e ta

x ra

tes

on w

age

rate

s. Th

is c

ould

be

beca

use

we

are

focu

sing

on

man

ufac

turin

g w

ages

, an

d th

is s

ecto

r is

hig

hly

capi

tal

inte

nsiv

e an

d as

sug

gest

ed b

y ot

her a

utho

rs (D

avis

et a

l.200

4) u

nres

pons

ive

to ta

x ra

tes.

Thus

a p

ossi

ble

area

of e

xplo

ratio

n in

futu

re re

sear

ch is

to s

ee if

this

resu

lt ge

nera

lizes

to

othe

r sec

tors

.

We

find

evid

ence

for i

nter

natio

nal t

ax c

ompe

titio

n. In

par

ticul

ar, t

here

app

ears

to

be a

link

bet

wee

n hi

gh ta

x “n

eigh

bors

” an

d hi

gh d

omes

tic w

ages

. Pre

sum

ably

, as

capi

tal

flow

s ou

t of

hig

h ta

x “n

eigh

bor”

cou

ntrie

s to

low

tax

cou

ntrie

s, th

is i

ncre

ases

wor

ker

prod

uctiv

ity a

nd h

ence

wag

es, i

n th

e lo

w ta

x co

untry

. Thu

s co

untri

es tr

y to

com

pete

for

capi

tal

with

oth

er c

ount

ries

by l

ower

ing

thei

r re

lativ

e ta

x ra

tes.

We

also

fin

d st

rong

evid

ence

to s

ugge

st th

at h

igh

wag

es in

nei

ghbo

ring

coun

tries

lead

to h

igh

wag

es in

the

dom

estic

eco

nom

y. A

gain

, a p

ossi

ble

reas

on fo

r thi

s is

cap

ital f

light

. As

capi

tal m

oves

to

rela

tivel

y lo

w w

age

dest

inat

ions

, it i

ncre

ases

wor

ker p

rodu

ctiv

ity in

thes

e re

gion

s w

hich

in tu

rn, c

ause

s w

ages

to ri

se. T

he re

sults

for i

nter

natio

nal t

ax c

ompe

titio

n ar

e st

rong

est i

n

the

case

of c

ount

ries w

ithin

the

sam

e in

com

e gr

oup.

25

Ref

eren

ces

Ans

elin

c, L

. (19

99),

“Spa

tial E

cono

met

rics”

,

http

://w

ww

.csi

ss.o

rg/le

arni

ng_r

esou

rces

/con

tent

/pap

ers/

baltc

hap.

pdf

Aue

rbac

h, A

. (20

05),

“Who

Bea

rs t

he C

orpo

rate

Tax

?”,N

BER

Wor

king

Pap

er

No.

W11

686

Aue

rbac

h, A

. and

Has

sett,

K. (

1991

), “R

ecen

t US

inve

stm

ent B

ehav

ior

and

The

Tax

Ref

orm

Act

of 1

986:

a d

isag

greg

ate

view

”, C

arne

gie

Roc

hest

er C

onfe

renc

e se

ries o

n

Publ

ic P

olic

y 35

: 185

-215

Aue

rbac

h, A

. an

d H

ines

, J.

(200

0),

“Tax

atio

n an

d Ec

onom

ic E

ffic

ienc

y”,

in

Han

dboo

k of

Pub

lic E

cono

mic

s, ed

ited

by A

lan

J. A

uerb

ach

and

Mar

tin F

elds

tein

.

Am

ster

dam

: Els

evie

r Pre

ss

Bes

ley,

Tim

othy

, and

Har

vey

Ros

en (1

994)

“Sal

es T

ax a

nd P

rices

: An

Empi

rical

Ana

lysi

s.” P

rince

ton

Uni

vers

ity E

cono

mic

s Dep

artm

ent.

Mim

eo

Car

d, D

., K

ram

arz,

F. a

nd L

emie

ux, T

. (19

96),

“Cha

nges

in th

e R

elat

ive

Stru

ctur

e

of W

ages

and

Em

ploy

men

t: A

Com

paris

on o

f th

e U

nite

d St

ates

, Can

ada

and

Fran

ce”,

NB

ER W

orki

ng P

aper

No.

5487

26

Car

roll,

R.,

Hol

tz-E

akin

, D

. R

ider

, M

. an

d R

osen

, H

. (2

000)

, “E

ntre

pren

eurs

,

Inco

me

Taxe

s an

d In

vest

men

t”, i

n Jo

el S

lem

rod,

ed.

, Doe

s A

tlas

Shru

g? T

he E

cono

mic

Con

sequ

ence

s of T

axin

g th

e R

ich

(MIT

Pre

ss C

ambr

idge

) pp

427-

455

Cor

pora

te I

ncom

e Ta

x R

ates

: Int

erna

tiona

l Com

paris

ons,

CB

O, N

ovem

ber

2005

http

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ww

.cbo

.gov

/ftpd

ocs/

69xx

/doc

6902

/11-

28-C

orpo

rate

Tax.

pdf

Cum

min

s, J.G

., H

asse

tt, K

. an

d H

ubba

rd,

G.

(199

4),

“A R

econ

side

ratio

n of

Inve

stm

ent B

ehav

ior

usin

g Ta

x R

efor

ms

as N

atur

al E

xper

imen

ts”,

Bro

okin

gs P

aper

s on

Econ

omic

Act

ivity

2: 1

-74

Dav

is, S

and

Hen

reks

on, M

. (20

04),

“Tax

eff

ects

on

Wor

k A

ctiv

ity, I

ndus

try M

ix

and

Shad

ow E

cono

my

Size

: Ev

iden

ce f

rom

Ric

h-C

ount

ry C

ompa

rison

s”, P

ublis

hed

in

Labo

ur S

uppl

y an

d In

cent

ives

to

Wor

k in

Eur

ope,

Góm

ez-S

alva

dor,

R.,

Lam

o, A

.,

Petro

ngol

o,B

., W

ard,

M.,

Was

mer

, E.

(ed

s.),

2005

, ch

apte

r 2,

pag

es 4

4-10

4, E

dwar

d

Elga

r.

Dev

ereu

x, M

. and

Grif

fith,

Rac

hel (

1998

), “T

he T

axat

ion

Of D

iscr

ete

Inve

stm

ent

Cho

ices

”, T

he In

stitu

te F

or F

isca

l Stu

dies

, Wor

king

Pap

er S

erie

s No.

W98

/16.

Din

ardo

, J.,

Forti

n, N

. and

Lem

ieux

, T. (

1996

), “L

abor

Mar

ket I

nstit

utio

ns a

nd th

e

Dis

tribu

tion

of W

ages

, 197

3-19

92: A

Sem

i-par

amet

ric A

ppro

ach”

, Eco

nom

etric

a, L

XIV

,

p.10

01-1

044.

27

Enge

n, E

, H

asse

tt, K

and

Met

calf,

G.

(200

3),

“Cap

ital

Taxa

tion

and

the

Rea

l

Econ

omy:

The

ory

and

Evid

ence

”, W

orki

ng P

aper

.

Free

man

, R

. (1

994)

, A

Glo

bal

Labo

r M

arke

t? D

iffer

ence

s in

Wag

es A

mon

g

coun

trie

s in

the

1980

s, W

ashi

ngto

n D

.C, W

orld

Ban

k.

Free

man

, R. a

nd O

oste

ndor

p, R

. (20

00),

“Wag

es A

roun

d th

e W

orld

: Pay

Acr

oss

Occ

upat

ions

and

Cou

ntrie

s”, N

BER

WP

8058

.

Gor

don,

R. a

nd H

ines

, J. (

2002

), “I

nter

natio

nal T

axat

ion”

, NB

ER W

P88

54

http

://w

ww

.nbe

r.org

/pap

ers/

w88

54.

Gru

bert,

H. a

nd M

utti,

J. (

1996

), “D

o Ta

xes

influ

ence

whe

re U

S m

ultin

atio

nal

corp

orat

ions

inve

st?”

Mim

eo, N

atio

nal T

ax Jo

urna

l, D

ecem

ber 2

000,

p. 8

25.

Gw

artn

ey,

J. an

d La

wso

n, R

. (2

005)

, Ec

onom

ic F

reed

om o

f th

e W

orld

: 20

05

Ann

ual

Rep

ort,

Van

couv

er:

The

Fras

er

Inst

itute

. D

ata

retri

eved

fr

om

ww

w.fr

eeth

ewor

ld.c

om.

Han

son,

G.

and

Feen

stra

, R

.(199

5),

“For

eign

Inv

estm

ent,

Out

sour

cing

and

Rel

ativ

eWag

es”,

in R

ober

t C. F

eens

tra, G

ene

M. G

ross

man

, and

Dou

glas

A. I

rwin

, eds

.,

Polit

ical

Eco

nom

y of

Tra

de P

olic

y: E

ssay

s in

Hon

or o

f Jag

dish

Bha

gwat

i, M

IT P

ress

,

1996

,pp.

89-1

27.

28

Har

berg

er, A

. (19

62),

“The

Inci

denc

e of

the

Cor

pora

tion

Inco

me

Tax”

, Jou

rnal

of

Polit

ical

Eco

nom

y 70

(3),

p. 2

15-2

40.

Has

sett,

K.

and

Hub

bard

, G

. (2

002)

, “T

ax P

olic

y A

nd B

usin

ess

Inve

stm

ent”

,

Han

dboo

k of

Pub

lic E

cono

mic

s, V

ol 3

, Edi

ted

by A

. Aue

rbac

h an

d M

. Fe

ldst

ein.

Hay

s, J.

(200

3),

“Glo

baliz

atio

n an

d C

apita

l Ta

xatio

n in

C

onse

nsus

an

d

Maj

orita

rian

Dem

ocra

cies

”, W

orld

Pol

itics

, 56,

p. 7

9-11

3.

Hin

es, J

. (19

99),

“Les

sons

from

Beh

avio

ral R

espo

nses

to In

tern

atio

nal T

axat

ion”

,

Nat

iona

l Tax

Jour

nal,

Vol

.52

(2),p

. 305

-322

.

Hin

es, J

. and

Ric

e. E

.(199

4), “

Fisc

al P

arad

ise:

For

eign

Tax

Hav

ens a

nd A

mer

ican

Bus

ines

s.”Q

uart

erly

Jou

rnal

of E

cono

mic

s, vo

l. 10

9, n

o. 1

(Feb

ruar

y), 1

49-1

82.

Judd

, K. (

2001

),“T

he Im

pact

of T

ax R

efor

m in

Mod

ern

Dyn

amic

Eco

nom

ies.”

In

Tran

sitio

n Co

sts o

f Fun

dam

enta

l Tax

Ref

orm

, edi

ted

by K

. A. H

asse

tt an

d R

. G.H

ubba

rd.

Was

hing

ton,

D.C

.: A

EI.

Kat

z,

L.

(199

9),

“Tec

hnol

ogic

al

chan

ge,

Com

pute

rizat

ion

and

the

Wag

e

Stru

ctur

e”, H

arva

rd U

nive

rsity

.

Lin

k: h

ttp://

post

.eco

nom

ics.h

arva

rd.e

du/fa

culty

/kat

z/pa

pers

/lkdi

g2.p

df

29

Koe

ster

, R. a

nd K

orm

endi

, R. (

1989

), “

Taxa

tion,

Agg

rega

te A

ctiv

ity a

nd

Econ

omic

Gro

wth

: Cro

ss-C

ount

ry E

vide

nce

on S

ome

Supp

ly-S

ide

Hyp

othe

ses”

,

Econ

omic

Inqu

iry

27: 3

67–8

6.

Lee,

Y. a

nd G

ordo

n, R

. (20

05),

“Tax

Stru

ctur

e an

d Ec

onom

ic G

row

th”,

Jour

nal o

f

Publ

ic E

cono

mic

s, V

ol 8

9, is

sue

5-6,

p 1

027-

1043

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Pote

rba,

J. (

1996

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etai

l Pr

ice

reac

tions

to

Cha

nges

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Stat

e an

d Lo

cal

Sale

s

Taxe

s”, N

atio

nal T

ax Jo

urna

l Vol

.49,

No.

2, p

. 165

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.

Ram

a, M

(Fa

ll 20

03),

“Glo

baliz

atio

n A

nd T

he L

abor

Mar

ket”

, The

Wor

ld B

ank

Res

earc

h O

bser

ver,

Vol

. 18,

No.

2, p

p 15

9-18

6.

Ram

a, M

. (1

996)

, “A

Lab

or M

arke

t C

ross

-Cou

ntry

Dat

abas

e”,

Wor

ld B

ank,

Was

hing

ton

DC

.

Man

kiw

, G (2

001)

, “C

omm

enta

ry: B

alan

ced-

Bud

get R

estra

int i

n Ta

xing

Inco

me

From

Wea

lth in

the

Ram

sey

Mod

el”,

In In

equa

lity

and

Tax

Polic

y, e

dite

d by

K. A

.

Has

sett

and

R. G

. Hub

bard

. Was

hing

ton,

DC

: AEI

.

Rod

rik,

D.

(199

9),

“Dem

ocra

cies

Pay

Hig

her

Wag

es”,

Qua

rterly

Jou

rnal

of

Econ

omic

s, V

ol. 1

14, N

o.3,

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8.

30

Tabe

llini

, G. a

nd P

erss

on, T

orst

en (

2005

), “D

emoc

racy

and

Dev

elop

men

t: D

evil

in th

e D

etai

ls”,

http

://w

ww

.aea

web

.org

/ann

ual_

mtg

_pap

ers/

2006

/010

6_10

15_1

402.

pdf .

Uni

ted

Nat

ions

Ind

ustri

al D

evel

opm

ent

Org

aniz

atio

n (U

NID

O),

Yea

rboo

k of

Labo

r Sta

tistic

s, va

rious

edi

tions

.

31

Tabl

e 1

Des

crip

tive

Stat

istic

s for

Cor

e V

aria

bles

use

d in

Reg

ress

ion

Var

iabl

eN

Mea

nSt

d.D

evA

vera

ge W

age

Per H

our

OEC

DN

on-O

ECD

1309

4.92

8.61

2.50

7.30

6.85

4.45

Log

(Ave

rage

W

age)

1309

.638

1.68

Top

Cor

pora

te

Tax

Rat

e O

ECD

Non

-OEC

D

1233

487

746

.35

.35

.34

.10

.89

.10

Log

Top

Cor

pora

te T

axR

ate

1230

-1.1

0.3

9

Log

Effe

ctiv

eA

vera

ge T

ax

Rat

e

1071

-1.2

4.3

4

Log

Effe

ctiv

eM

argi

nal t

ax

Rat

e

1048

-1.4

0.4

6

Ave

rage

Pers

onal

Inco

me

Tax

Rat

eO

ECD

Non

-OEC

D

1047

26.3

2

31.1

723

.22

9.90

8.68

9.37

Med

ian

Pers

onal

Inco

me

Tax

1145

27.1

510

.38

Log

(Val

ue

Add

ed P

er

Wor

ker i

nM

anuf

actu

ring)

1291

9.31

1.52

Log

GD

P pe

rca

pita

1449

8.14

1.33

Log

(Tra

de/G

DP)

1412

4.15

.52

Scho

olin

g11

903.

84.6

0Lo

g pr

ice

leve

l 16

064.

89.2

0

32

Figure 1: Trends in Corporate Tax Rates

0.2

.4.6

Top

Nat

iona

l Cor

pora

te T

ax R

ate

('00)

1980 1985 1990 1995 2000Year

Trend in Top Corporate Tax Rates

A. Top National Corporate Tax Rate

0.2

.4.6

Effe

ctiv

e M

argi

nal C

orpo

rate

Tax

Rat

e ('0

0)

1980 1985 1990 1995 2000Year

Trend in Effective Marginal Tax Rates

B. Effective Marginal Tax Rate

33

Figure 2:Wages and Income Taxes

010

2030

40Av

erag

e H

ourly

Wag

e R

ate

(dol

lars

)

1980 1985 1990 1995 2000Year

Trend in Hourly Wage Rates ($)

A. Trend in Average Hourly Wage Rates

020

4060

Aver

age

Per

sona

l Inc

ome

Tax

1980 1985 1990 1995 2000Year

Trend in Personal Income Taxes

B. Trend in Average Personal Income Tax Rates

34

Figure 3: Capital Wage Links in OECD and Non-OECD Economies

010

2030

Hou

rly M

anuf

actu

ring

Wag

e (D

olla

rs)

0 .2 .4 .6Top Corporate Tax Rate('00)

Capital Wage Links in OECD economies

OECD: Slope coefficient=-25.76

010

2030

40H

ourly

Man

ufac

turin

g W

age

(Dol

lars

)

0 .2 .4 .6Top Corporate Tax Rate('00)

Capital Wage Links in non-OECD economies

Non-OECD: Slope coefficient =-5.88

35

Table 2: Variation In Top Corporate Tax Rates (’00)

Australia Austria Bolivia Chile Colombia 1981 0.46 0.55 0.3 0.48 0.4 1982 0.46 0.55 0.3 0.48 0.4 1983 0.46 0.55 0.3 0.46 0.4 1984 0.46 0.55 0.3 0.23 0.4 1985 0.46 0.55 0.3 0.1 0.4 1986 0.49 0.55 0.02 0.1 0.4 1987 0.49 0.55 0.02 0.1 0.3 1988 0.39 0.55 0.02 0.1 0.3 1989 0.39 0.3 0.025 0.09 0.3 1990 0.39 0.3 0.03 0.15 0.3 1991 0.39 0.3 0.03 0.15 0.3 1992 0.39 0.3 0.03 0.15 0.3 1993 0.33 0.3 0.03 0.15 0.371994 0.33 0.34 0.25 0.15 0.371995 0.36 0.34 0.25 0.15 0.351996 0.36 0.34 0.25 0.15 0.351997 0.36 0.34 0.25 0.15 0.351998 0.36 0.34 0.25 0.15 0.351999 0.36 0.34 0.25 0.15 0.352000 0.34 0.34 0.25 0.15 0.352001 0.3 0.34 0.25 0.15 0.352002 0.3 0.34 0.25 0.16 0.35

36

Tabl

e 3:

Var

iatio

n in

Wag

e R

ates

(US

$ pe

r hou

r)

Aus

tralia

Aus

tria

Bol

ivia

Chi

leC

olom

bia

1981

9.8

6.87

1.2

1.64

1.15

1982

8.12

6.86

1.09

1.43

1.29

1983

7.51

6.85

1.5

1.90

1.34

1984

7.77

6.46

0.82

1.85

1.31

1985

6.59

6.63

11.

431.

1119

866.

659.

421.

911.

491.

0219

877.

3611

.80

0.73

1.62

0.82

1988

8.96

12.5

60.

931.

821.

0319

899.

8412

.28

0.98

2.05

1.11

1990

10.0

615

.36

1.00

2.34

1.07

1991

10.3

315

.81

1.10

2.78

0.84

1992

10.0

417

.80

1.06

3.23

1.29

1993

9.53

17.6

51.

081.

600.

9319

9410

.75

18.7

21.

111.

791.

3119

9511

.55

17.8

71.

112.

151.

3219

9612

.83

17.5

70.

842.

321.

4419

9716

.58

15.4

10.

942.

481.

5519

9810

.91

16.0

51.

022.

411.

7119

9915

.66

15.3

61.

072.

241.

4520

0010

.52

13.6

01.

092.

201.

5920

019.

4012

.49

1.22

1.99

1.60

2002

11.5

518

.75

1.30

1.97

1.46 37

Tabl

e 4:

Reg

ress

ion

Res

ults

(1)

(2)

(3)

(4)

(5)

Dependent Variable: Log (Average Hourly Wage) (5 year average)

Log(TopCorpTax)

-0.836

-0.841

-1.047

-1.193

(2.85)***

(2.80)***

(2.03)** (2.04)**

Log(ValueAdded)

0.444

0.438

0.644

0.621 0.246

(1.79)*

(1.71)*

(2.56)**

(2.37)**(0.55)

Log(CPI)

0.566

0.611

0.465

0.456 1.004

(2.68)***

(2.53)**

(1.73)*

(1.65)* (1.88)*

Log(PersonalTax)

-0.134

-0.117

-0.259

0.666 -0.724

(0.51)

(0.44)

(0.96)

(1.37)

(1.44)

Log(Trade/GDP)

0.067

0.027

-0.005

(0.26)

(0.09)

(0.02)

Log(LaborMktReg)

0.121

(0.20)

Log(Computerization)

0.032

(0.19)

Constant

-6.21

-6.67

-6.45

-5.69 -4.63

(2.35)**

(2.32)**

(2.13)**

(1.63)* (0.98)

Observations

218

214

215

180

128

OverallR-squared0.26

0.26

0.21

0.29

0.26

_______________________________________________________________________

Absolute value of t statistics in parentheses

***significant at 1%; **significant at 5%;*significant at 10%

1. All specifications include country fixed effects and period dummies.

2. The dependent variable is the 5 year average of the wage rate over

sub-periods: 1981-1985, 1986-1990, 1991-1995, 1996-2000,2001-2002. The

independent variables are the beginning of period values of these

variables.

38

Tabl

e 5:

Oth

er T

ax M

easu

res

(1)

(2)

(3)

(4)

Dependent variable: Log(Average hourly wage) (5 year average)

Log(Eff.Mrg.Tax)

-0.372

-0.344

(1.66)*

(1.48)

Log(Eff.Avg.Tax)

-0.660

-0.589

(2.00)**

(1.83)*

Log(ValueAdded)

0.478

0.422

0.568

-0.528

(1.84)*

(1.61)

(2.10)**

(1.99)**

Log(PersonalTax)

-0.197

-0.189

-0.274

-0.263

(0.73)

(0.72)

(0.87)

(0.87)

Log(CPI)

0.710

0.742

0.452

0.474

(2.91)***

(3.08)***

(1.81)*

(1.98)*

Constant

-6.495

-6.439

-5.88

-5.94

(2.26)**

(2.27)**

(2.09)**

(2.18)**

Observations

195

199

94

97

Sample

All

All

Non-OECD

Non-OECD

R-squared

0.24

0.22

0.16

0.18


***significant at 1%; ** significant at 5%;*significant at 10%



sub-periods: 1981-1985, 1986-1990, 1991-1995, 1996-2000,2001-2002. The


variables.

39

Tabl

e 6:

Reg

ress

ions

with

Spa

tial V

aria

bles

(1)

(2)

(3)

(4)

(5)

Dependent Variable:Log(Average Hourly Wage) (5 year average)

Log(TopCorpTax)

-0.900

-0.900

-0.979

(3.03)***

(2.98)***

(3.18)***

Log(Eff.Marg.Tax)

-0.312

(1.39)

Log(Eff.Avg.Tax)

-0.706

(2.16)**

Log(ValueAdded)

0.252

0.403

0.471

0.358 0.173

(0.96)

(1.44)

(1.77)*

(1.19)

(0.63)

Log(CPI)

0.506

0.419

0.449

0.396 0.556

(2.43)**

(1.93)*

(2.15)**

(1.49) (2.15)**

Wgt.OwnRegWage

0.395

0.408

(2.25)*

(2.26)**

Wgt.OwnRegTax

0.097

0.517

(0.39)

(2.93)*

Incwt.OwnRegWage

0.468

0.557

(1.64)*

(1.87)*

Incwt.OwnRegTax

0.504

(1.50)

Incwt.OwnRegEffMargTax

0.548

(1.71)*

Distincwt.OwnRegWage

0.347

(1.69)*

Distincwt.OwnRegTax

0.531

(1.87)*

Constant

-4.851

-5.563

-6.328

-4.51 -3.75

(1.93)*

(2.07)**

(2.46)**

(1.49) (1.38)

Observations

220

222

222

197

201

R-squared

0.27

0.25

0.26

0.22

0.20

_______________________________________________________________________


***significant at 1%; ** significant at 5%;*significant at 10%



sub-periods: 1981-1985, 1986-1990, 1991-1995, 1996-2000,2001-2002. The


variables.

3.

Columns

(1)

and

(5)use

GDP-weighted

own

region

countries

as

neighbors. Column (2) and (4) use GDP-weighted own Income group

countries as neighbors. Column (3) uses Distance weighted own Income

group countries as neighbors.

40

Tabl

e 7:

Res

ults

with

Oth

er E

xpla

nato

ry V

aria

bles

: Dem

ocra

cy, P

ayro

ll an

d V

AT

Taxe

s

(1) (2)

(3)

(4)

Dependent Variable: Log(Average Hourly Wage) (5 year average)

Log(TopCorpTax)

-0.794

-0.592

-0.625 -0.949

(2.65)***

(1.79)*

(1.88)*

(3.11)***

Log(ValueAdded)

-0.417

0.642

0.780

0.685

(1.70)*

(1.90)*

(2.67)***

(3.19)***

Log(CPI)

0.514

0.549

0.863

0.464

(2.45)**

(2.38)**

(2.63)***

(2.62)**

Log(PersonalTax)

-0.329

-0.192

(1.02)

(0.91)

Democracy

0.355

(0.90)

Log(Payrolltax)

-0.223

(1.25)

Log(VAT)

-0.510

(1.31)

Constant

-1.498

-6.73

-9.52

-7.86

(0.53)***

(1.88)*

(2.74)***

(3.53)***

Observations

220

254

158

175

Sample

All

All

All

Exclude SS

R-squared

0.28

0.25

0.21

0.23


*** significant at 1%; ** significant at 5%;***significant at 10%

_________________________________________________________________



sub-periods: 1981-1985, 1986-1990, 1991-1995, 1996-2000,2001-2002. The


variables.

41

Tabl

e 8:

Sm

all E

cono

my

Res

ults

(1) (2)

(3)

Dependent Variable: Log(Average Hourly Wage) (5 year average)

Log(TopCorpTax)

-0.842

-1.070

-1.543

(2.88)***

(3.16)***

(1.88)*

Log(Personaltax)

-0.156

-0.045

-0.413

(0.61)

(0.15)

(0.58)

Log(ValueAdded)

0.453

0.206

0.248

(1.83)*

(0.62)

(1.20)

Log(CPI)

0.589

0.556

0.538

(2.85)***

(2.33)**

(1.53)

Constant

-6.300

-4.553

-4.466

(2.39)***

(1.23)

(2.13)**

Sample

All

All-Top 10

Smallest12

Observations

218

178

44


*** significant at 1%; ** significant at 5%;*significant at 10%

_________________________________________________________________



sub-periods: 1981-1985, 1986-1990, 1991-1995, 1996-2000,2001-2002. The


variables.

42

Tabl

e 9:

Oth

er S

peci

ficat

ions

: Ran

dom

Eff

ects

, OLS

Dependent Variable: Log(Average Hourly Wage)

(1)

(2)

(3)

RE GLS(5-yr average) OLS(5-yr average)RE GLS (3-year average)

Log(TopCorpTax)

-0.919

-0.844

-0.517

(3.55)***

(2.59)***

(2.72)***

Log(ValueAdded)

0.245

0.183

0.319

(2.47)**

(1.49)

(3.31)**

Log(PersonalTax)

-0.174

0.082

0.198

(0.76)

(0.28)

(1.06)

Log(CPI)

0.825

1.014

0.725

(4.82)***

(4.33)***

(4.43)***

EastAfr

1.241

(1.88)

SouthAfr

1.545

(2.88)**

Caribbean

2.416

(3.31)**

Cent.America

0.995

(2.09)*

South.Am

0.361

(0.84)

Southasia

-0.374

(0.64)

Westasia

-0.728

(1.50)

Easteuro

0.163

(0.38)

Northeuro

1.585

(4.20)**

Southeuro

1.052

(2.57)*

Westeuro

1.647

(4.22)**

Southeastasia

0.422

(1.00)

Constant

-5.272

-5.481

-6.389

(1.55)**

(3.22)**

(5.61)**

PeriodDummies

Yes

Yes

Yes

Observations

218

218

309

R-squared

0.29

0.50

0.27

_______________________________________________________________________

Absolute value of z statistics in parentheses

*** significant at 1%; ** significant at 5%;*significant at 10%

43

Dat

a A

ppen

dix

The

stat

istic

s on

wag

es a

re o

btai

ned

from

the

ILO

’s K

ey In

dica

tors

of t

he L

abor

Mar

ket (

KIL

M).

The

ILO

repo

rts a

vera

ge e

arni

ngs p

er w

orke

r or,

in so

me

case

s, av

erag

e

wag

e ra

tes.

Som

e of

the

serie

s cov

er w

age

earn

ers (

i.e. m

anua

l or p

rodu

ctio

n w

orke

rs)

only

, whi

le o

ther

s ref

er to

sala

ried

empl

oyee

s (i.e

. non

-man

ual w

orke

rs),

or a

ll em

ploy

ees

(i.e.

wag

e ea

rner

s and

sala

ried

empl

oyee

s). T

he se

ries c

over

wor

kers

of b

oth

sexe

s,

irres

pect

ive

of a

ge.

Earn

ings

:The

con

cept

of e

arni

ngs r

elat

es to

rem

uner

atio

n in

cas

h an

d in

kin

d

paid

to e

mpl

oyee

s, as

a ru

le a

t reg

ular

inte

rval

s, fo

r tim

e w

orke

d or

wor

k do

ne to

geth

er

with

rem

uner

atio

n fo

r tim

e no

t wor

ked,

such

as f

or a

nnua

l vac

atio

n, o

ther

pai

d le

ave

or

holid

ays.

Earn

ings

exc

lude

em

ploy

ers’

con

tribu

tions

in re

spec

t of t

heir

empl

oyee

s pai

d to

soci

al se

curit

y an

d pe

nsio

n sc

hem

es a

nd a

lso

the

bene

fits r

ecei

ved

by e

mpl

oyee

s und

er

thes

e sc

hem

es. E

arni

ngs a

lso

excl

ude

seve

ranc

e an

d te

rmin

atio

n pa

y.

Stat

istic

s of e

arni

ngs s

houl

d re

late

to e

mpl

oyee

s’ g

ross

rem

uner

atio

n, i.

e. th

e to

tal

befo

re a

ny d

educ

tions

are

mad

e by

the

empl

oyer

in re

spec

t of t

axes

, con

tribu

tions

of

empl

oyee

s to

soci

al se

curit

y an

d pe

nsio

n sc

hem

es, l

ife in

sura

nce

prem

ium

s, un

ion

dues

and

othe

r obl

igat

ions

of e

mpl

oyee

s.

Earn

ings

incl

ude:

dire

ct w

ages

and

sala

ries,

rem

uner

atio

n fo

r tim

e no

t wor

ked

(exc

ludi

ng se

vera

nce

and

term

inat

ion

pay)

, bon

uses

and

gra

tuiti

es a

nd h

ousi

ng a

nd

fam

ily a

llow

ance

s pai

d by

the

empl

oyer

dire

ctly

to th

is e

mpl

oyee

. (a)

Dire

ct w

ages

and

sala

ries f

or ti

me

wor

ked,

or w

ork

done

, cov

er: (

i) st

raig

ht ti

me

pay

of ti

me-

rate

d w

orke

rs;

(ii) i

ncen

tive

pay

of ti

me-

rate

d w

orke

rs; (

iii) e

arni

ngs o

f pie

ce w

orke

rs (e

xclu

ding

over

time

prem

ium

s); (

iv) p

rem

ium

pay

for o

verti

me,

shift

, nig

ht a

nd h

olid

ay w

ork;

(v)

com

mis

sion

s pai

d to

sale

s and

oth

er p

erso

nnel

. Inc

lude

d ar

e: p

rem

ium

s for

seni

ority

and

spec

ial s

kills

, geo

grap

hica

l zon

e di

ffer

entia

ls, r

espo

nsib

ility

pre

miu

ms,

dirt,

dan

ger a

nd

disc

omfo

rt al

low

ance

s, pa

ymen

ts u

nder

gua

rant

eed

wag

e sy

stem

s, co

st-o

f-liv

ing

allo

wan

ces a

nd o

ther

regu

lar a

llow

ance

s. (b

) Rem

uner

atio

n fo

r tim

e no

t wor

ked

com

pris

es d

irect

pay

men

ts to

em

ploy

ees i

n re

spec

t of p

ublic

hol

iday

s, an

nual

vac

atio

ns

and

othe

r tim

e of

f with

pay

gra

nted

by

the

empl

oyer

. (c)

Bon

uses

and

gra

tuiti

es c

over

44

seas

onal

and

end

-of-

year

bon

uses

, add

ition

alpa

ymen

ts in

resp

ect o

f vac

atio

n pe

riod

(sup

plem

enta

ry to

nor

mal

pay

) and

pro

fit-s

harin

g bo

nuse

s. (ii

) Sta

tistic

s of e

arni

ngs

shou

ld d

istin

guis

h ca

sh e

arni

ngs f

rom

pay

men

ts in

kin

d.

Wag

e ra

tes:

The

se in

clud

e ba

sic

wag

es, c

ost-o

f-liv

ing

allo

wan

ces a

nd o

ther

gua

rant

eed

and

regu

larly

pai

d al

low

ance

s, bu

t exc

lude

ove

rtim

e pa

ymen

ts, b

onus

es a

nd g

ratu

ities

,

fam

ily a

llow

ance

s and

oth

er so

cial

secu

rity

paym

ents

mad

e by

em

ploy

ers.

Ex g

ratia

paym

ents

in k

ind,

supp

lem

enta

ry to

nor

mal

wag

e ra

tes,

are

also

exc

lude

d.

Thus

bro

adly

cou

ntry

cov

erag

e di

ffer

s due

to th

e fo

llow

ing

reas

ons:

(1) w

heth

er

the

repo

rted

stat

istic

is w

ages

or e

arni

ngs (

2) w

heth

er it

cov

ers e

mpl

oyee

s, w

age

earn

ers

or sa

larie

d em

ploy

ees (

3) w

heth

er it

incl

udes

soci

al se

curit

y co

ntrib

utio

ns b

y em

ploy

er.

Whe

n w

e st

udie

d th

e de

scrip

tions

mor

e cl

osel

y, w

e fo

und

that

cer

tain

cou

ntrie

s lik

e

Chi

le, T

urke

y, C

olom

bia,

Ecu

ador

, Ken

ya, K

yrgy

zsta

n, M

exic

o, M

alay

sia,

Pan

ama

and

Ukr

aine

incl

uded

soci

al se

curit

y co

ntrib

utio

ns b

y em

ploy

ers i

n th

e ea

rnin

gs d

ata.

Ano

ther

diff

eren

ce a

rises

bec

ause

the

indu

stria

l cla

ssifi

catio

n ch

ange

d du

ring

this

per

iod.

Sin

ce

the

begi

nnin

g of

the

1990

s an

incr

easi

ng n

umbe

r of c

ount

ries h

ave

mad

e a

switc

hove

r in

thei

r dat

a re

porti

ng sy

stem

s for

indu

stria

l sta

tistic

s fro

m R

evis

ion

2 to

Rev

isio

n 3

of th

e

Inte

rnat

iona

l Sta

ndar

d C

lass

ifica

tion

of A

ll Ec

onom

ic A

ctiv

ities

(ISI

C).

Incl

udin

g du

mm

ies t

o al

low

for a

ll th

ese

diff

eren

ces i

n co

vera

ge in

a p

anel

regr

essi

on (w

ithou

t cou

ntry

fixe

d ef

fect

s)yi

elde

d a

high

ly si

gnifi

cant

neg

ativ

e si

gn o

n

corp

orat

e ta

x ra

tes,

and

no c

hang

e in

resu

lts fo

r the

oth

er v

aria

bles

.

45

Wor

king

Pap

er S

erie

sC

ongr

essi

onal

Bud

get O

ffic

eW

ashi

ngto

n, D

.C.

Inte

rnat

iona

l Bur

dens

of t

he C

orpo

rate

Inco

me

Tax

Will

iam

C. R

ando

lph

(em

ail:

will

iam

.rand

olph

@cb

o.go

v)C

ongr

essi

onal

Bud

get O

ffic

eW

ashi

ngto

n, D

.C.

Aug

ust,

2006

2006

-09

Wor

king

pap

ers i

n th

is se

ries a

re p

relim

inar

y an

d ar

e ci

rcul

ated

to st

imul

ate

disc

ussi

on a

ndcr

itica

l com

men

t. Th

ese

pape

rs a

re n

ot su

bjec

t to

CB

O’s

form

al re

view

and

edi

ting

proc

esse

s.Th

e an

alys

is a

nd c

oncl

usio

ns e

xpre

ssed

in th

em a

re th

ose

of th

e au

thor

s and

shou

ld n

ot b

ein

terp

rete

d as

thos

e of

the

Con

gres

sion

al B

udge

t Off

ice.

Ref

eren

ces i

n pu

blic

atio

ns sh

ould

be

clea

red

with

the

auth

ors.

Pape

rs in

this

serie

s can

be

obta

ined

at w

ww

.cbo

.gov

(sel

ect

Publ

icat

ions

and

then

Wor

king

Pap

ers)

.1 T

he a

utho

r wou

ld li

ke to

than

k A

lan

Aue

rbac

h, B

ob D

enni

s, Ja

ne G

rave

lle, H

arry

Gru

bert,

Lar

ry O

zann

e, B

obW

illia

ms,

and

Tom

Woo

dwar

d fo

r the

ir co

mm

ents

and

sugg

estio

ns.

Abs

trac

t1

This

stud

y ap

plie

s a si

mpl

e tw

o-co

untry

, fiv

e-se

ctor

, gen

eral

equ

ilibr

ium

mod

el b

ased

on

Har

berg

er (1

995,

200

6) to

exa

min

e th

e lo

ng-r

un in

cide

nce

of a

cor

pora

te in

com

e ta

x in

an

open

econ

omy.

In

equi

libriu

m, c

apita

l is a

ssum

ed to

be

perf

ectly

mob

ile in

tern

atio

nally

in th

e se

nse

that

the

coun

try in

whi

ch a

real

inve

stm

ent i

s loc

ated

doe

s not

mat

ter t

o th

e m

argi

nal i

nves

tor.

Inad

ditio

n, e

ach

coun

try is

ass

umed

to p

rodu

ce a

t lea

st so

me

trada

ble

corp

orat

e go

ods f

or w

hich

the

coun

try c

anno

t aff

ect w

orld

out

put p

rices

.Li

ke th

e or

igin

al H

arbe

rger

(196

2) m

odel

, the

wor

ldw

ide

stoc

k of

cap

ital a

nd th

e su

pply

of l

abor

in e

ach

coun

try a

re fi

xed.

Und

er th

ose

assu

mpt

ions

, the

mod

el p

rovi

des c

lose

d fo

rm so

lutio

ns a

nd e

asily

und

erst

ood

pred

ictio

ns a

bout

its c

ompa

rativ

e st

atic

equ

ilibr

ia.

As w

ith a

ny si

mpl

ified

mod

el, t

he a

naly

sis i

s sile

nt a

bout

som

epo

tent

ially

impo

rtant

issu

es –

such

as t

he e

ffec

t of t

he c

orpo

rate

tax

on sa

ving

s, gr

owth

and

oth

erdy

nam

ics –

that

may

als

o ha

ve im

porta

nt e

ffec

ts o

n co

rpor

ate

tax

inci

denc

e.

The

anal

ysis

show

s how

the

dom

estic

ow

ners

of c

apita

l can

esc

ape

mos

t of t

he c

orpo

rate

inco

me

tax

burd

en w

hen

capi

tal i

s rea

lloca

ted

abro

ad in

resp

onse

to th

e ta

x. B

ut, a

s in

Bra

dfor

d (1

978)

,ca

pita

l ow

ners

wor

ldw

ide

cann

ot e

scap

e th

e ta

x.R

eallo

catio

n of

cap

ital a

broa

d dr

ives

dow

n th

epe

rson

al re

turn

to in

vest

men

t so

that

cap

ital o

wne

rs w

orld

wid

e be

ar a

ppro

xim

atel

y th

e fu

llbu

rden

of t

he d

omes

tic c

orpo

rate

inco

me

tax.

For

eign

wor

kers

ben

efit

beca

use

an in

crea

sed

fore

ign

stoc

k of

cap

ital r

aise

s the

ir pr

oduc

tivity

and

thei

r wag

es.

Dom

estic

wor

kers

lose

bec

ause

thei

r pro

duct

ivity

falls

and

they

can

not e

mig

rate

to ta

ke a

dvan

tage

of h

ighe

r for

eign

wag

es.

Und

er b

asic

ass

umpt

ions

of t

he n

umer

ical

app

licat

ion,

the

outc

ome

is a

lso

sim

ilar t

o th

eim

plic

atio

ns o

f the

sim

pler

mod

el o

f Bra

dfor

d in

that

the

full

wor

ldw

ide

burd

en fa

lls o

n do

mes

ticow

ners

of p

rodu

ctiv

e in

puts

. Th

at o

utco

me

chan

ges,

how

ever

, und

er a

ltern

ativ

e as

sum

ptio

ns.

Bur

dens

are

mea

sure

d in

a n

umer

ical

exa

mpl

e by

subs

titut

ing

fact

or sh

ares

and

out

put s

hare

sth

at a

re re

ason

able

for t

he U

.S. e

cono

my.

Giv

en th

ose

valu

es, d

omes

tic la

bor b

ears

slig

htly

mor

e th

an 7

0 pe

rcen

t of t

he b

urde

n of

the

corp

orat

e in

com

e ta

x. T

he d

omes

tic o

wne

rs o

f cap

ital

bear

slig

htly

mor

e th

an 3

0 pe

rcen

t of t

he b

urde

n. D

omes

tic la

ndow

ners

rece

ive

a sm

all b

enef

it.

At t

he sa

me

time,

the

fore

ign

owne

rs o

f cap

ital b

ear s

light

ly m

ore

than

70

perc

ent o

f the

bur

den,

but t

heir

burd

en is

exa

ctly

off

set b

y th

e be

nefit

s rec

eive

d by

fore

ign

wor

kers

and

land

owne

rs.

To th

e ex

tent

that

cap

ital i

s les

s mob

ile in

tern

atio

nally

, dom

estic

labo

r’s b

urde

n w

ould

be

low

eran

d do

mes

tic c

apita

l’s b

urde

n w

ould

be

high

er.

Bur

dens

can

als

o be

aff

ecte

d by

the

dom

estic

coun

try’s

abi

lity

to in

fluen

ce th

e w

orld

pric

es o

f som

e tra

ded

corp

orat

e ou

tput

s. B

ut th

e si

gns

and

mag

nitu

des o

f tho

se e

ffec

ts o

n bu

rden

dep

end

upon

the

rela

tive

capi

tal i

nten

sitie

s of

prod

uctio

n in

the

corp

orat

e se

ctor

s tha

t pro

duce

inte

rnat

iona

lly tr

adab

le g

oods

.

2 The

re a

re a

lso

othe

r sou

rces

of i

neff

icie

ncy

unde

r the

cor

pora

te ta

x (s

ee G

rave

lle, 1

994;

Con

gres

sion

al B

udge

tO

ffic

e, 2

005b

; and

Judd

, 200

6).

3 In

the

shor

t run

, cha

nges

in th

e co

rpor

ate

inco

me

tax

are

mos

t lik

ely

born

e by

exi

stin

g co

rpor

ate

shar

ehol

ders

(see

Aue

rbac

h, 2

005)

.4 R

osen

(200

2), p

p. 2

94-2

99, a

nd F

ulle

rton

and

Met

calf

(200

2), p

p. 1

812-

1815

, pro

vide

det

aile

d di

scus

sion

s of t

heH

arbe

rger

mod

el.

-1-

I.In

trod

uctio

n

In a

clo

sed

econ

omy,

the

corp

orat

e in

com

e ta

x ca

uses

pro

duct

ion

to b

e in

effic

ient

beca

use

the

tax

is n

ot im

pose

d eq

ually

on

the

inco

me

from

all

capi

tal u

sed

in th

e co

rpor

ate

and

nonc

orpo

rate

sect

ors.

Tha

t diff

eren

ce c

ause

s the

cap

ital i

nten

sity

of p

rodu

ctio

n to

be

too

low

in

the

corp

orat

e se

ctor

s and

too

high

in th

e no

ncor

pora

te se

ctor

s. T

he c

orpo

rate

tax

is in

effic

ient

beca

use

the

mar

gina

l pre

-tax

retu

rn fr

om c

orpo

rate

inve

stm

ent e

xcee

ds th

e m

argi

nal p

re-ta

x

retu

rn fr

om n

onco

rpor

ate

inve

stm

ent i

n eq

uilib

rium

.2

It is

not

as c

lear

who

bea

rs th

e lo

ng-r

un b

urde

n of

the

corp

orat

e ta

x in

a c

lose

d ec

onom

y.3

But

in o

ne o

f the

bes

t-kno

wn

anal

yses

in p

ublic

fina

nce,

Har

berg

er (1

962)

foun

d th

at th

e U

.S.

corp

orat

e ta

x is

like

ly to

be

born

e en

tirel

y by

all

owne

rs o

f cap

ital.

How

that

mig

ht o

ccur

can

be u

nder

stoo

d, ro

ughl

y, in

term

s of t

he e

ffec

ts th

at th

e ta

x ha

s on

outp

ut a

nd in

put s

ubst

itutio

n

deci

sion

s mad

e by

con

sum

ers a

nd p

rodu

cers

.4 In

the

Har

berg

er m

odel

of a

clo

sed

econ

omy,

the

tota

l sup

plie

s of l

abor

and

cap

ital a

re fi

xed

but p

erfe

ctly

mob

ile b

etw

een

sect

ors.

In re

spon

se to

the

tax,

con

sum

ers s

ubst

itute

aw

ay fr

om th

e m

ore

heav

ily ta

xed

corp

orat

e go

ods s

o th

at

prod

uctio

n sh

ifts t

o th

e no

ncor

pora

te se

ctor

. C

orpo

rate

pro

duce

rs su

bstit

ute

away

from

the

taxe

d

inpu

t – c

orpo

rate

cap

ital –

whi

ch p

ushe

s up

the

capi

tal i

nten

sity

of p

rodu

ctio

n in

the

nonc

orpo

rate

sect

or, t

hus r

educ

ing

the

afte

r-ta

x re

turn

to c

apita

l.

Und

er a

ssum

ptio

ns c

onsi

dere

d re

ason

able

for t

he U

.S. e

cono

my,

Har

berg

er (1

962)

foun

d

that

the

outp

ut a

nd in

put s

ubst

itutio

n de

cisi

ons c

ombi

ne in

such

a w

ay th

at p

erso

nal c

apita

l

-2-

inco

me

is re

duce

d ex

actly

by

the

full

burd

en o

f the

cor

pora

te ta

x, a

nd w

ages

rem

ain

cons

tant

.

Pers

onal

cap

ital i

ncom

e is

redu

ced

to th

e sa

me

degr

ee re

gard

less

of w

heth

er th

e ca

pita

l ow

ners

inve

st in

the

corp

orat

e se

ctor

or t

he n

onco

rpor

ate

sect

or.

The

effe

cts o

f the

cor

pora

te in

com

e ta

x in

an

open

eco

nom

y ar

e ob

viou

sly

mor

e

com

plic

ated

. Th

e ta

x is

like

ly to

be

even

less

eff

icie

nt b

ecau

se it

can

dis

tort

both

the

dom

estic

and

the

inte

rnat

iona

l allo

catio

ns o

f cap

ital.

Dom

estic

wor

kers

are

mor

e lik

ely

to b

ear a

bur

den

beca

use

wor

kers

can

not m

ove

read

ily b

etw

een

coun

tries

. D

omes

tic w

ages

will

fall

whe

n ca

pita

l

is re

allo

cate

d ab

road

and

dom

estic

wor

kers

can

not m

ove

to ta

ke a

dvan

tage

of a

hig

her f

orei

gn

wag

e ra

te.

At t

he sa

me

time,

fore

ign

labo

r rec

eive

s a b

enef

it fr

om th

e in

crea

se in

fore

ign

capi

tal.

The

open

eco

nom

y is

diff

icul

t to

anal

yze

beca

use

labo

r and

cap

ital o

wne

rs c

an b

e do

mes

tic o

r

fore

ign,

and

eac

h se

ctor

of e

ach

econ

omy

can

prod

uce

good

s and

serv

ices

that

are

trad

ed o

r not

trade

d in

tern

atio

nally

. A

dom

estic

cor

pora

te ta

x ca

n af

fect

the

dom

estic

and

fore

ign

pric

es o

f

inpu

ts a

nd o

utpu

ts, t

he d

omes

tic a

nd fo

reig

n na

tiona

l inc

omes

, and

the

dom

estic

and

fore

ign

dist

ribut

ions

of i

ncom

e. T

he w

orld

eco

nom

y si

mpl

y ha

s mor

e di

men

sion

s.

Mel

vin

(198

2) e

xam

ines

a w

orld

eco

nom

y in

whi

ch th

ere

is in

tern

atio

nal t

rade

but

no

inte

rnat

iona

l inv

estm

ent.

He

finds

that

the

dom

estic

bur

den

of th

e co

rpor

ate

inco

me

tax

falls

prim

arily

on

the

fact

or th

at is

use

d m

ost i

nten

sive

ly in

the

corp

orat

e se

ctor

. In

the

Uni

ted

Stat

es,

that

fact

or is

labo

r. H

is m

odel

div

ides

the

wor

ld in

to tw

o co

untri

es th

at e

ach

prod

uce

the

sam

e

two

inte

rnat

iona

lly tr

aded

goo

ds.

The

supp

lies o

f lab

or a

nd c

apita

l are

fixe

d an

d im

mob

ile

inte

rnat

iona

lly.

He

assu

mes

initi

ally

that

the

dom

estic

eco

nom

y is

smal

l so

that

dom

estic

econ

omic

dec

isio

ns c

anno

t aff

ect t

he w

orld

pric

es o

f tra

ded

good

s.

-3-

Und

er th

ose

assu

mpt

ions

, a d

omes

tic ta

x im

pose

d on

cap

ital i

ncom

e in

the

corp

orat

e

sect

or c

ause

s the

dom

estic

eco

nom

y to

shift

pro

duct

ion

tow

ard

the

nonc

orpo

rate

sect

or.

If th

e

corp

orat

e se

ctor

is m

ore

labo

r-in

tens

ive

than

the

nonc

orpo

rate

sect

or, b

oth

the

corp

orat

e an

d th

e

nonc

orpo

rate

dom

estic

sect

ors b

ecom

e le

ss c

apita

l-int

ensi

ve in

equ

ilibr

ium

as a

resu

lt of

prod

ucer

resp

onse

s to

the

tax.

At a

low

er c

apita

l int

ensi

ty, t

he re

turn

to d

omes

tic c

apita

l act

ually

incr

ease

s and

dom

estic

labo

r can

bea

r mor

e th

an 1

00 p

erce

nt o

f the

cor

pora

te in

com

e ta

x. E

ven

if th

e do

mes

tic e

cono

my

is la

rge

enou

gh to

aff

ect t

he w

orld

pric

es o

f the

trad

ed g

oods

, Mel

vin

finds

that

the

corp

orat

e ta

x bu

rden

still

falls

prim

arily

on

the

fact

or th

at is

use

d m

ost i

nten

sive

ly

in th

e co

rpor

ate

sect

or.

Mel

vin’

s ana

lysi

s sho

ws t

hat t

he c

orpo

rate

tax

burd

en c

an b

e sh

ifted

to d

omes

tic la

bor

even

whe

n th

ere

is n

o in

tern

atio

nal i

nves

tmen

t, an

d ev

en w

hen

the

dom

estic

eco

nom

y is

larg

e

enou

gh to

influ

ence

the

pric

es o

f int

erna

tiona

lly tr

aded

goo

ds.

How

ever

, tho

se re

sults

are

not

fully

robu

st to

the

addi

tion

of in

tern

atio

nally

mob

ile c

apita

l, th

e pr

oduc

tion

of g

oods

that

are

not

trade

d in

tern

atio

nally

, and

the

poss

ibili

ty o

f im

perf

ect d

eman

d su

bstit

utio

n be

twee

n do

mes

tic-

and

fore

ign-

prod

uced

inte

rnat

iona

lly tr

adab

le g

oods

. U

nfor

tuna

tely

, try

ing

to a

ccou

nt fo

r all

of

thos

e is

sues

can

mak

e th

e an

alys

is v

ery

diff

icul

t.

Gra

velle

and

Sm

ette

rs (2

006)

con

stru

ct a

com

puta

ble

gene

ral e

quili

briu

m m

odel

in w

hich

the

wor

ld is

div

ided

into

two

coun

tries

with

four

pro

duct

ive

sect

ors i

n ea

ch c

ount

ry.

The

dom

estic

eco

nom

y is

div

ided

into

cor

pora

te a

nd n

onco

rpor

ate

sect

ors,

like

the

orig

inal

Har

berg

er

(196

2) m

odel

, but

eac

h se

ctor

is fu

rther

subd

ivid

ed in

to a

subs

ecto

r tha

t pro

duce

s int

erna

tiona

lly

trade

able

goo

ds a

nd a

sub-

sect

or th

at p

rodu

ces g

oods

that

are

not

trad

ed b

etw

een

coun

tries

. Li

ke

Mut

ti an

d G

rube

rt (1

985)

, Gra

velle

and

Sm

ette

rs a

llow

for t

he p

ossi

bilit

y th

at c

apita

l is n

ot5 T

he G

rave

lle a

nd S

met

ters

mod

el is

ver

y si

mila

r to

the

mod

el c

onst

ruct

ed b

y M

utti

and

Gru

bert,

alth

ough

Mut

tian

d G

rube

rt do

not

mea

sure

labo

r’s i

ncid

ence

of t

he c

orpo

rate

inco

me

tax.

6 Gra

velle

and

Sm

ette

rs (2

006)

, Tab

le 2

.

-4-

perf

ectly

mob

ile in

tern

atio

nally

, and

for t

he p

ossi

bilit

y th

at fo

reig

n an

d do

mes

tic tr

adab

le g

oods

are

impe

rfec

t sub

stitu

tes i

n co

nsum

ptio

n.5

Gra

velle

and

Sm

ette

rs fi

nd th

at th

e co

rpor

ate

tax

burd

en im

pose

d on

dom

estic

labo

r is

smal

l whe

n th

e de

man

d su

bstit

utab

ility

bet

wee

n do

mes

tic a

nd fo

reig

n tra

dabl

e go

ods i

s low

.

Alth

ough

thei

r mod

el is

diff

eren

t fro

m M

elvi

n’s m

odel

, the

ir tra

de re

sult

is si

mila

r to

that

ear

lier

findi

ng: T

he b

urde

n im

pose

d on

dom

estic

labo

r can

be

redu

ced

whe

n th

e do

mes

tic c

ount

ry c

an

influ

ence

the

wor

ld p

rices

of i

nter

natio

nally

trad

ed g

oods

. In

Mel

vin,

that

inte

rnat

iona

l mar

ket

pow

er is

larg

e w

hen

the

dom

estic

eco

nom

y is

larg

e co

mpa

red

with

the

rest

of t

he w

orld

. In

Gra

velle

and

Sm

ette

rs, t

he in

tern

atio

nal m

arke

t pow

er is

larg

e w

hen

ther

e is

a lo

w d

egre

e of

subs

titut

abili

ty b

etw

een

the

dom

estic

and

fore

ign

trada

ble

corp

orat

e go

ods.

Eve

n a

smal

l

coun

try c

an h

ave

the

latte

r typ

e of

mar

ket p

ower

. In

bot

h m

odel

s, th

e co

rpor

ate

tax

can

affe

ct

both

dom

estic

and

fore

ign

natio

nal w

elfa

re in

way

s tha

t ope

rate

, in

part,

like

an

ad v

alor

em ta

riff

on e

xpor

ts, a

s illu

stra

ted

in W

halle

y (1

980)

.

Whe

n in

tern

atio

nal c

apita

l mob

ility

is p

erfe

ct a

nd th

e su

bstit

utab

ility

bet

wee

n do

mes

tic

and

fore

ign

corp

orat

e tra

dabl

e go

ods i

s ver

y hi

gh, G

rave

lle a

nd S

met

ters

find

that

dom

estic

labo

r’s b

urde

n eq

uals

abo

ut 7

3 pe

rcen

t of c

orpo

rate

tax

reve

nue.

6 Alth

ough

the

fore

ign

capi

tal

owne

rs’ b

urde

n eq

uals

67

perc

ent o

f the

dom

estic

reve

nue,

that

bur

den

is fu

lly o

ffse

t by

a be

nefit

that

fore

ign

wor

kers

rece

ive

beca

use

they

bec

ome

mor

e pr

oduc

tive.

Thu

s, no

ne o

f the

net

burd

en is

exp

orte

d to

fore

igne

rs.

How

ever

, dom

estic

labo

r’s s

hare

of t

he b

urde

n ca

n be

muc

h

smal

ler a

nd a

net

bur

den

can

be e

xpor

ted

whe

n th

e tra

dabl

e go

ods a

re le

ss su

bstit

utab

le.

For

exam

ple,

whe

n th

e ag

greg

ate

trade

subs

titut

ion

elas

ticity

equ

als 1

, a v

alue

that

Gra

velle

and

-5-

Smet

ters

cite

as r

easo

nabl

e ba

sed

on p

revi

ous e

mpi

rical

stud

ies,

dom

estic

labo

r’s b

urde

n eq

uals

only

21

perc

ent o

f the

cor

pora

te ta

x re

venu

e. T

hat r

educ

tion

of 5

2 pe

rcen

t in

dom

estic

labo

r’s

burd

en is

alm

ost a

ll ex

porte

d to

fore

ign

resi

dent

s, w

hose

net

bur

den

then

equ

als 4

9 pe

rcen

t of t

he

dom

estic

cor

pora

te ta

x re

venu

e. I

f tra

de su

bstit

utio

n an

d ca

pita

l mob

ility

are

bot

h lo

w, d

omes

tic

labo

r will

bea

r alm

ost n

one

of th

e co

rpor

ate

inco

me

tax

burd

en.

In a

dditi

on to

dem

onst

ratin

g th

e po

tent

ial i

mpo

rtanc

e of

inte

rnat

iona

l mar

ket p

ower

,

Gra

velle

and

Sm

ette

rs sh

ow th

at th

e lo

ng-r

un in

cide

nce

of th

e co

rpor

ate

inco

me

tax

is h

ighl

y

unce

rtain

. A

lthou

gh e

mpi

rical

evi

denc

e ab

out t

he sh

ort-r

un d

egre

es o

f int

erna

tiona

l tra

de

subs

titut

ion

and

capi

tal m

obili

ty su

gges

t tha

t dom

estic

labo

r bea

rs a

lmos

t non

e of

the

burd

en o

f

the

corp

orat

e ta

x ac

cord

ing

to th

eir a

naly

sis,

it is

not

cle

ar w

hat s

houl

d be

ass

umed

abo

ut th

ose

para

met

ers f

or th

e lo

ng ru

n.

Har

berg

er (1

995)

mea

sure

s the

ope

n-ec

onom

y in

cide

nce

of th

e co

rpor

ate

inco

me

tax

by

anal

yzin

g a

sim

ple

gene

ral e

quili

briu

m m

odel

of d

omes

tic a

nd fo

reig

n ec

onom

ies t

hat e

ach

have

five

sect

ors.

In c

ontra

st to

Gra

velle

and

Sm

ette

rs, t

he c

orpo

rate

sect

or th

at p

rodu

ces

inte

rnat

iona

lly tr

adea

ble

good

s is f

urth

er su

bdiv

ided

into

two

subs

ecto

rs.

One

of t

hose

subs

ecto

rs p

rodu

ces g

oods

that

are

per

fect

subs

titut

es fo

r the

goo

ds p

rodu

ced

by th

e

corr

espo

ndin

g fo

reig

n se

ctor

. Th

e se

cond

cor

pora

te su

bsec

tor p

rodu

ces g

oods

that

are

impe

rfec

t

subs

titut

es fo

r goo

ds p

rodu

ced

by th

e co

rres

pond

ing

fore

ign

sect

or.

Oth

erw

ise,

that

ear

lier

mod

el in

Har

berg

er (1

995)

and

late

r ana

lyze

d in

Har

berg

er (2

006)

has

the

sam

e ba

sic

stru

ctur

e

as th

e m

odel

in G

rave

lle a

nd S

met

ters

.

Whe

n go

ods a

re p

rodu

ced

in b

oth

corp

orat

e tra

dabl

e go

ods s

ubse

ctor

s of t

he H

arbe

rger

(199

5) m

odel

, the

dom

estic

and

fore

ign

wag

es a

re d

eter

min

ed fu

lly b

y th

e ef

fect

s tha

t the

tax

has

-6-

on p

rodu

ctio

n co

sts w

ithin

the

first

subs

ecto

r. In

the

dom

estic

eco

nom

y, th

e co

rpor

ate

tax

driv

es

a w

edge

into

the

cost

of p

rodu

ctio

n in

the

corp

orat

e se

ctor

s. B

ecau

se th

e do

mes

tic e

cono

my

cann

ot a

ffec

t the

wor

ld p

rice

of o

utpu

t in

the

first

sect

or, t

he d

omes

tic w

age

mus

t dec

reas

e in

orde

r to

offs

et th

e in

crea

sed

corp

orat

e co

st o

f cap

ital.

Alth

ough

the

Har

berg

er (1

995)

mod

el sp

lits t

he c

orpo

rate

trad

able

sect

ors i

n th

at w

ay,

the

leve

l of s

ubst

ituta

bilit

y be

twee

n th

e do

mes

tic a

nd fo

reig

n ou

tput

s of t

he se

cond

cor

pora

te

trada

ble

sect

or c

an st

ill a

ffec

t the

inci

denc

e of

the

tax,

as i

n G

rave

lle a

nd S

met

ters

. B

ut, a

s

show

n in

this

stud

y, th

at tr

ade

effe

ct d

epen

ds u

pon

the

rela

tive

capi

tal i

nten

sitie

s of p

rodu

ctio

n

in th

e co

rpor

ate

trada

ble

sect

ors.

Whe

n th

e ca

pita

l int

ensi

ties a

re e

qual

, the

inci

denc

e of

the

tax

does

not

dep

end

at a

ll up

on th

e de

gree

of i

nter

natio

nal o

utpu

t sub

stitu

tabi

lity

in th

e se

cond

corp

orat

e tra

dabl

e se

ctor

.

This

stud

y ex

amin

es a

ver

sion

of H

arbe

rger

’s (1

995,

200

6) o

pen-

econ

omy

gene

ral

equi

libriu

m m

odel

. A

fter d

evel

opin

g th

e m

odel

and

ana

lyzi

ng th

e ec

onom

ic e

ffec

ts o

f the

corp

orat

e in

com

e ta

x, a

num

eric

al a

pplic

atio

n is

pre

sent

ed th

at u

ses o

utpu

t and

inpu

t sha

re

assu

mpt

ions

reas

onab

le fo

r the

Uni

ted

Stat

es.

The

appl

icat

ion

star

ts w

ith a

n as

sum

ptio

n th

at

capi

tal i

s per

fect

ly m

obile

inte

rnat

iona

lly.

It al

so a

ssum

es in

itial

ly th

at th

e de

gree

of

inte

rnat

iona

l out

put s

ubst

ituta

bilit

y do

es n

ot m

atte

r bec

ause

the

corp

orat

e tra

dabl

e se

ctor

s hav

e

equa

l out

put c

apita

l int

ensi

ties.

Tho

se a

ssum

ptio

ns a

re re

laxe

d la

ter i

n th

e ap

plic

atio

n.

This

stud

y ex

amin

es c

orpo

rate

tax

inci

denc

e bo

th a

lone

and

in c

ompa

rison

to se

vera

l

repl

acem

ent t

axes

: a g

ener

al ta

x on

the

inco

me

from

cap

ital i

n al

l dom

estic

sect

ors,

a do

mes

tic

wag

e ta

x, a

tax

on th

e w

orld

wid

e ca

pita

l inc

ome

of th

e do

mes

tic o

wne

rs o

f cap

ital,

and

a

unifo

rm d

omes

tic ta

x on

per

sona

l inc

ome

or c

onsu

mpt

ion.

The

mod

el is

als

o us

ed to

exa

min

e

-7-

the

inte

rnat

iona

l bur

dens

of t

he c

orpo

rate

inco

me

tax

unde

r alte

rnat

ive

assu

mpt

ions

: ab

out

whe

ther

the

coun

try is

a n

et in

tern

atio

nal b

orro

wer

or n

et in

tern

atio

nal l

ende

r, ab

out t

he re

lativ

e

capi

tal i

nten

sitie

s of p

rodu

ctio

n in

the

corp

orat

e tra

dabl

e se

ctor

s, ab

out t

he si

ze o

f the

dom

estic

econ

omy

rela

tive

to th

e re

st o

f the

wor

ld, a

nd a

bout

the

degr

ee o

f int

erna

tiona

l cap

ital m

obili

ty.

A la

ter s

ectio

n al

so e

xam

ines

how

the

tax

burd

ens a

re a

ffec

ted

whe

n m

any

coun

tries

impo

se

corp

orat

e in

com

e ta

xes a

nd m

ay e

ngag

e in

inte

rnat

iona

l tax

com

petit

ion.

An

appe

ndix

furth

er

exam

ines

Har

berg

er (1

995)

, Har

berg

er (2

006)

, and

Gra

velle

and

Sm

ette

rs.

II.

The

Mod

el

The

wor

ld c

onsi

sts o

f tw

o co

untri

es.

In a

n in

itial

equ

ilibr

ium

, bot

h ec

onom

ies a

re

iden

tical

exc

ept f

or si

ze.

For e

ach

econ

omy,

pro

duct

ion

is d

ivid

ed in

to fi

ve se

ctor

s tha

t eac

h

prod

uce

good

s or s

ervi

ces u

sing

labo

r, ca

pita

l, an

d (f

or a

gric

ultu

re) l

and.

All

prod

uctio

n

tech

nolo

gies

are

cha

ract

eriz

ed b

y co

nsta

nt re

turn

s to

scal

e; p

rodu

ctio

n fu

nctio

ns a

re tw

ice-

diff

eren

tiabl

e an

d co

ncav

e; c

ompe

titio

n is

per

fect

at t

he le

vel o

f the

pro

duce

r.

The

first

thre

e se

ctor

s are

cor

pora

te.

Sect

or o

ne p

rodu

ces i

nter

natio

nally

trad

eabl

e

outp

uts f

or w

hich

the

fore

ign

and

dom

estic

pro

duct

s are

per

fect

dem

and

subs

titut

es.

The

outp

ut

from

that

sect

or is

the

num

erai

re.

Sect

or tw

o pr

oduc

es in

tern

atio

nally

trad

eabl

e ou

tput

s for

whi

ch th

e fo

reig

n an

d do

mes

tic p

rodu

cts a

re n

ot p

erfe

ct d

eman

d su

bstit

utes

. Se

ctor

thre

e

prod

uces

non

-inte

rnat

iona

lly tr

adab

le o

utpu

ts fo

r whi

ch c

onsu

mpt

ion

mus

t occ

ur in

the

sam

e

coun

try a

s pro

duct

ion;

exa

mpl

es in

clud

e ut

ilitie

s and

tran

spor

tatio

n se

rvic

es.

7 The

ana

lysi

s thu

s abs

tract

s fro

m th

e ef

fect

s tha

t the

cor

pora

te ta

x m

ay h

ave

on ta

x in

cide

nce

thro

ugh

its e

ffec

t on

indi

vidu

al sa

ving

s, th

e ca

pita

l sto

ck, a

nd, u

ltim

atel

y, la

bor p

rodu

ctiv

ity a

nd th

e re

turn

to c

apita

l (se

e Fu

llerto

n an

dM

etca

lf, 2

002,

pp.

183

2-18

44).

-8-

Sect

ors f

our a

nd fi

ve a

re n

onco

rpor

ate

sect

ors.

Sec

tor f

our p

rodu

ces i

nter

natio

nally

trade

able

agr

icul

tura

l pro

duct

s. S

ecto

r fiv

e pr

oduc

es o

utpu

ts th

at a

re n

ot in

tern

atio

nally

trade

able

, suc

h as

resi

dent

ial h

ousi

ng a

nd re

tail

serv

ices

.

Labo

r is h

omog

eneo

us a

nd p

erfe

ctly

mob

ile w

ithin

eac

h co

untry

, but

can

not m

ove

betw

een

coun

tries

. Th

us, t

he w

age

rate

is th

e sa

me

for e

very

sect

or w

ithin

a c

ount

ry, b

ut c

an

diff

er b

etw

een

coun

tries

. In

divi

dual

s do

not v

ary

thei

r am

ount

of l

abor

supp

lied

to th

e m

arke

t.

The

wor

ldw

ide

supp

ly o

f cap

ital i

s fix

ed b

ut p

erfe

ctly

mob

ile b

etw

een

coun

tries

in th

at

the

geog

raph

ic lo

catio

n of

inve

stm

ent d

oes n

ot m

atte

r to

a m

argi

nal i

nves

tor.

The

mar

gina

l

retu

rn to

inve

stm

ent i

s the

sam

e ev

eryw

here

in e

quili

briu

m, e

xclu

ding

pro

duce

r-le

vel t

axes

on

capi

tal i

ncom

e. C

apita

l ow

ners

can

ow

n ca

pita

l in

eith

er c

ount

ry, b

ut c

anno

t the

mse

lves

relo

cate

abro

ad.

Each

ow

ns a

fixe

d sh

are

of th

e w

orld

cap

ital s

tock

.7

Con

sum

ers h

ave

iden

tical

hom

othe

tic p

refe

renc

es a

nd m

ust c

onsu

me

whe

re th

ey li

ve.

They

can

cho

ose

from

am

ong

the

five

type

s of o

utpu

ts p

rodu

ced

in th

eir o

wn

coun

try (o

r

impo

rted

from

the

othe

r cou

ntry

in th

e ca

se o

f out

puts

from

sect

ors o

ne a

nd fo

ur) a

nd im

ports

of

the

uniq

ue o

utpu

t fro

m se

ctor

two

of th

e ot

her c

ount

ry.

Initi

al c

onsu

mer

exp

endi

ture

s on

the

six

type

s of g

oods

and

serv

ices

are

pro

porti

onal

to th

e in

itial

shar

es o

f wor

ldw

ide

prod

uctio

n.

The

dom

estic

gov

ernm

ent c

olle

cts t

axes

and

mak

es lu

mp-

sum

dis

tribu

tions

. In

ord

er to

isol

ate

the

effe

cts o

f the

cor

pora

te in

com

e ta

x, th

e go

vern

men

t’s o

ther

pol

icie

s are

ass

umed

to

affe

ct n

eith

er e

cono

mic

eff

icie

ncy

nor t

he d

istri

butio

n of

inco

me.

With

any

ava

ilabl

e ta

x

reve

nues

, the

dom

estic

gov

ernm

ent p

urch

ases

the

six

avai

labl

e va

rietie

s of c

onsu

mer

goo

ds

acco

rdin

g to

the

sam

e ex

pend

iture

shar

es a

s dom

estic

con

sum

ers.

The

gov

ernm

ent r

edis

tribu

tes

8 A la

ter s

ectio

n of

this

pap

er, i

n an

exa

min

atio

n of

tax

com

petit

ion,

dis

cuss

es h

ow th

e re

sults

app

ly w

hen

othe

rco

untri

es a

lso

have

cor

pora

te in

com

e ta

xes a

nd m

ay c

hang

e th

eir t

axes

sim

ulta

neou

sly.

9 Ful

lerto

n an

d M

etca

lf (2

002)

show

how

such

com

para

tive

stat

ic lo

g-lin

ear e

quili

briu

m re

latio

nshi

ps c

an b

ede

rived

for a

two-

sect

or c

lose

d ec

onom

y un

der t

he a

ssum

ptio

ns o

f thi

s mod

el.

The

expr

essi

on u

sed

here

for t

hepe

rcen

tage

cha

nge

in th

e co

st o

f cap

ital i

n th

e ta

xed

sect

or d

iffer

s slig

htly

from

thei

r cor

resp

ondi

ng te

rm,

,r

beca

use

the

term

in (1

a) a

llow

s for

a d

iscr

ete

finite

cha

nge

in th

e ta

x ra

te.

The

term

use

d in

(1a)

con

verg

es to

the

term

use

d by

Ful

lerto

n an

d M

etca

lf as

the

tax

rate

app

roac

hes z

ero.

-9-

that

bun

dle

of c

omm

oditi

es to

dom

estic

resi

dent

s in

prop

ortio

n to

thei

r inc

omes

. Th

e fo

reig

n

gove

rnm

ent d

oes n

ot re

spon

d to

any

tax

polic

ies c

hose

n by

the

dom

estic

gov

ernm

ent.8

III.

The

Cor

pora

te In

com

e T

ax

Star

ting

in a

wor

ld e

quili

briu

m w

ith n

o co

rpor

ate

taxe

s, th

e do

mes

tic g

over

nmen

t

intro

duce

s a sm

all t

ax o

n ca

pita

l inc

ome

from

dom

estic

pro

duct

ion

with

in th

e co

rpor

ate

sect

ors.

The

tax

is im

pose

d at

a ta

x-ex

clus

ive

rate

of

per

cent

. Th

at is

the

perc

enta

ge b

y w

hich

the

tax

c

initi

ally

incr

ease

s the

cor

pora

te c

ost o

f cap

ital a

bove

its i

nitia

l equ

ilibr

ium

val

ue

so th

at th

er,

corp

orat

e co

st o

f cap

ital e

qual

s T

he e

quili

briu

m v

alue

of

can

chan

ge a

s a re

sult

ofr

c(

).1

r

the

econ

omic

resp

onse

s to

the

tax.

In

a ne

w e

quili

briu

m, s

tarti

ng fr

om a

tax

rate

of z

ero,

the

corp

orat

e co

st o

f cap

ital i

ncre

ases

by

per

cent

, whe

re a

circ

umfle

x ov

er a

var

iabl

e(

)r

rc

1

indi

cate

s the

per

cent

age

by w

hich

that

var

iabl

e ch

ange

s to

its n

ew e

quili

briu

m v

alue

. Th

e

equi

libriu

m c

ost o

f cap

ital o

utsi

de th

e do

mes

tic c

orpo

rate

sect

or c

hang

es b

y pe

rcen

t. r

Com

petit

ion

in se

ctor

one

det

erm

ines

how

cha

nges

in th

e co

st o

f cap

ital a

ffec

t the

fore

ign

and

dom

estic

wag

e ra

tes i

n eq

uilib

rium

. B

ecau

se th

e pr

oduc

tion

tech

nolo

gy is

cha

ract

eriz

ed b

y

cons

tant

retu

rns t

o sc

ale

and

beca

use

com

petit

ion

is p

erfe

ct a

t the

pro

duce

r lev

el, a

ny c

hang

es in

the

pric

es o

f out

put i

n ea

ch se

ctor

mus

t be

rela

ted

prop

ortio

nally

to c

hang

es in

the

cost

of

inpu

ts.9

For s

ecto

r one

, tha

t rel

atio

nshi

p is

giv

en b

y:

-10-

(a)

[

()

]p

wr

rd

Ld

Kc

11

10

1

(1)

(b)

p

wr

fL

fK

11

10

whe

re

is th

e ou

tput

pric

e,

and

a

re th

e la

bor a

nd c

apita

l sha

res o

f val

ue a

dded

inp

j 1L1

K1

sect

or o

ne, a

ndis

the

wag

e ra

te in

cou

ntry

j(w

hich

can

indi

cate

d, d

omes

tic, o

r f, f

orei

gn).

wj

The

pric

e of

sect

or o

ne o

utpu

t rem

ains

con

stan

t bec

ause

sect

or o

ne p

rodu

ces t

he n

umer

aire

, and

the

fore

ign

and

dom

estic

out

puts

from

that

sect

or a

re id

entic

al.

Thus

, any

cha

nge

in th

e co

st o

f

capi

tal f

or se

ctor

one

in c

ount

ry m

ust b

e fu

lly o

ffse

t by

a w

age

rate

cha

nge

in th

at c

ount

ry.

j

Rec

ogni

zing

that

the

outp

ut p

rice

does

not

cha

nge,

re-a

rran

gem

ent o

f (1a

) and

(1b)

yie

lds t

he

follo

win

g eq

uatio

ns fo

r the

equ

ilibr

ium

cha

nges

in d

omes

tic a

nd fo

reig

n w

age

rate

s:

(a)

[

()

]w

rr

dK L

c1 1

1

(2)

(b)

w

rf

K L1 1

Acc

ordi

ng to

(2a)

, any

incr

ease

in th

e do

mes

tic c

orpo

rate

cos

t of c

apita

l for

sect

or o

ne w

ill c

ause

the

dom

estic

wag

e ra

te to

fall.

Acc

ordi

ng to

(2b)

, any

dec

reas

es in

the

fore

ign

cost

of c

apita

l for

sect

or o

ne w

ill c

ause

the

fore

ign

wag

e ra

te to

rise

. Th

e si

zes o

f tho

se w

age

rate

cha

nges

will

depe

nd u

pon

the

capi

tal i

nten

sity

of s

ecto

r one

pro

duct

ion

and

the

amou

nt o

f cha

nge

in th

e

corp

orat

e co

st o

f cap

ital.

Whe

n th

e ca

pita

l int

ensi

ty o

f sec

tor o

ne p

rodu

ctio

n is

low

er, t

he w

age

rate

doe

s not

hav

e to

cha

nge

by a

s muc

h fo

r the

resu

lting

cha

nge

in w

age

cost

s to

fully

off

set t

he

chan

ge in

the

cost

of c

apita

l.

10 F

or c

apita

l and

labo

r dem

ands

, the

subs

crip

ts C

and

N re

pres

ent a

ggre

gate

am

ount

s for

all

corp

orat

e se

ctor

s and

nonc

orpo

rate

sect

ors,

resp

ectiv

ely.

The

abs

ence

of a

subs

crip

t rep

rese

nts a

n ag

greg

ate

over

all

sect

ors.

The

abs

ence

of a

supe

rscr

ipt r

epre

sent

s an

aggr

egat

e ov

er b

oth

coun

tries

.11

Equ

atio

n (4

) can

als

o be

exp

ress

ed in

term

s of t

he in

put s

hare

s alo

ne.

It w

ould

be

easy

to d

eriv

e a

varia

tion

ofeq

uatio

n (4

) tha

t allo

ws t

he c

orpo

rate

and

non

corp

orat

e se

ctor

s to

have

diff

eren

t inp

ut su

bstit

utio

n el

astic

ities

.

-11-

The

fact

that

the

tax

caus

es th

e re

lativ

e pr

ices

of t

he c

apita

l and

labo

r inp

uts t

o ch

ange

impl

ies t

hat p

rodu

cers

will

subs

titut

e be

twee

n th

eir d

eman

ds fo

r cap

ital a

nd la

bor.

Tha

t inp

ut

subs

titut

ion

caus

es th

e eq

uilib

rium

dem

ands

for c

apita

l and

labo

r to

chan

ge a

ccor

ding

to

(a)

[(

)]

KL

wr

rCd

CdCd

dc

1

(3)

(b)

(

)K

Lw

rNd

NdNd

d

(c)

(

)K

Lw

rf

ff

f

whe

re a

nd

are

the

capi

tal a

nd la

bor s

tock

s and

is th

e pa

rtial

ela

stic

ity o

f sub

stitu

tion

Kij

L ijij

betw

een

capi

tal a

nd la

bor i

n se

ctor

i of

cou

ntry

j.10

Toge

ther

, the

rela

tions

hips

in (2

) and

(3) d

eter

min

e th

e eq

uilib

rium

cha

nge

in

Rec

all

r.

that

the

aggr

egat

e su

pply

of l

abor

is fi

xed

in e

ach

coun

try a

nd th

at th

e su

pply

of c

apita

l is f

ixed

wor

ldw

ide.

Bas

ed o

n th

ose

cond

ition

s, as

sum

ing

that

the

inpu

t sub

stitu

tion

elas

ticiti

es a

re

iden

tical

in a

ll se

ctor

s and

cou

ntrie

s, (2

) and

(3) i

mpl

y th

at th

e ch

ange

in th

e eq

uilib

rium

is r

give

n by

(4).11

(4)

()

rK

KK

KK

c

dL

Nd

dL

Ndc

1

1

Equa

tion

(4) i

mpl

ies t

hat t

he c

hang

e in

is

det

erm

ined

by

the

rela

tive

size

of t

her

dom

estic

eco

nom

y an

d th

e si

ze o

f the

dom

estic

cor

pora

te se

ctor

. W

hen

the

dom

estic

cor

pora

te

sect

or is

smal

l com

pare

d w

ith th

e re

st o

f the

wor

ld e

cono

my,

the

equi

libriu

m v

alue

of

will

r

12 W

hen

the

dom

estic

cor

pora

te se

ctor

mak

es u

p th

e en

tire

dom

estic

eco

nom

y an

d th

e ta

x ra

te is

ver

y sm

all,

equa

tion

(4) i

s the

sam

e as

a re

latio

nshi

p de

rived

by

Bra

dfor

d (1

978)

and

Kot

likof

f and

Sum

mer

s (19

86).

Tha

tva

riant

is d

iscu

ssed

in a

late

r sec

tion

of th

is st

udy.

13

In

deriv

atio

n of

(4),

the

equi

libriu

m c

ondi

tions

are

met

thro

ugh

chan

ges i

n th

e ca

pita

l allo

catio

ns a

lone

. Th

em

odel

impl

ies t

hat t

he la

bor d

eman

ds d

o no

t cha

nge

in re

spon

se to

the

tax.

-12-

decr

ease

by

only

a sm

all p

erce

ntag

e. I

n th

e lim

it,w

ill n

ot c

hang

e w

hen

the

dom

estic

eco

nom

yr

or c

orpo

rate

sect

or is

ver

y sm

all,

so th

e co

st o

f cap

ital i

n th

e do

mes

tic c

orpo

rate

sect

or,

, w

ill in

crea

se b

y ap

prox

imat

ely

per

cent

. C

onve

rsel

y, w

hen

the

dom

estic

rc

()

1c

corp

orat

e se

ctor

is v

ery

larg

e co

mpa

red

with

to th

e w

orld

eco

nom

y,

will

dec

reas

e by

a la

rge

r

perc

enta

ge, a

nd th

e co

st o

f cap

ital i

n th

e do

mes

tic c

orpo

rate

sect

or w

ill in

crea

se b

y su

bsta

ntia

lly

less

than

p

erce

nt.12

c

As a

bas

ic e

cono

mic

inte

rpre

tatio

n of

(4),

whe

n th

e re

lativ

e co

st o

f cap

ital i

ncre

ases

in th

e

dom

estic

cor

pora

te se

ctor

s and

dec

reas

es in

the

dom

estic

non

corp

orat

e se

ctor

s and

abr

oad,

dom

estic

cor

pora

te p

rodu

cers

dem

and

rela

tivel

y le

ss c

apita

l. T

he n

onco

rpor

ate

dom

estic

prod

ucer

s and

all

fore

ign

prod

ucer

s dem

and

rela

tivel

y m

ore

capi

tal.

As a

resu

lt, th

e ca

pita

l

inte

nsiti

es o

f pro

duct

ion

incr

ease

in th

ose

latte

r sec

tors

and

the

mar

gina

l pro

duct

ivity

of c

apita

l

decr

ease

s in

thos

e se

ctor

s. S

uch

chan

ges c

ause

the

mar

gina

l ret

urn

to in

vest

men

t, , t

o fa

ll in

r

thos

e ot

her s

ecto

rs.13

The

mar

gina

l ret

urn

falls

by

mor

e w

hen

the

dom

estic

eco

nom

y an

d th

e

dom

estic

cor

pora

te se

ctor

are

larg

er re

lativ

e to

the

rest

of t

he w

orld

. Th

at h

appe

ns b

ecau

se a

ny

give

n pe

rcen

tage

redu

ctio

n in

the

dom

estic

cor

pora

te c

apita

l sto

ck c

orre

spon

ds in

that

cas

e to

a

larg

er in

crea

se in

cap

ital/l

abor

ratio

s of t

he d

omes

tic n

onco

rpor

ate

and

fore

ign

sect

ors.

The

capi

tal i

nten

sity

of p

rodu

ctio

n in

sect

or o

ne e

nter

s (4)

bec

ause

any

real

loca

tion

of

capi

tal o

ut o

f the

dom

estic

cor

pora

te se

ctor

is o

ffse

t, so

mew

hat,

by th

e fa

ct th

at th

e do

mes

tic

wag

e ra

te fa

lls w

here

as th

e fo

reig

n w

age

rate

rise

s. A

s a re

sult,

the

dom

estic

non

corp

orat

e

prod

ucer

s do

not i

ncre

ase

thei

r dem

and

for c

apita

l by

as m

uch,

pro

porti

onal

ly, a

s do

the

fore

ign

14 T

he a

dditi

onal

fixe

d fa

ctor

, lan

d, is

incl

uded

in th

e m

odel

as a

n in

put i

n se

ctor

four

to a

void

a c

orne

r sol

utio

n.

Oth

erw

ise,

whe

n re

spon

ses t

o th

e co

rpor

ate

tax

driv

e do

wn

both

the

wag

e an

d th

e co

st o

f cap

ital f

or th

at se

ctor

, all

dom

estic

pro

duce

rs w

ould

wan

t to

prod

uce

only

that

out

put.

-13-

prod

ucer

s. T

he d

omes

tic n

onco

rpor

ate

prod

ucer

s will

eve

n de

crea

se th

eir d

eman

d fo

r cap

ital i

f

the

dom

estic

eco

nom

y is

ver

y sm

all r

elat

ive

to th

e re

st o

f the

wor

ld o

r if p

rodu

ctio

n in

sect

or o

ne

is v

ery

capi

tal i

nten

sive

. Th

e im

porta

nce

of su

ch a

reac

tion

by th

e do

mes

tic n

onco

rpor

ate

prod

ucer

s is r

epre

sent

ed in

(4) b

y th

e in

tera

ctio

n be

twee

n th

e do

mes

tic n

onco

rpor

ate

capi

tal

stoc

k an

d th

e te

rm th

at re

pres

ents

labo

r’s s

hare

of v

alue

add

ed in

sect

or o

ne.

Cha

nges

in th

e la

nd re

nts a

re d

eter

min

ed in

sect

or fo

ur, t

he a

gric

ultu

ral s

ecto

r. F

ollo

win

g

Har

berg

er (1

995)

, it i

s ass

umed

her

e th

at th

e do

mes

tic c

ount

ry d

oes n

ot p

rodu

ce e

noug

h to

aff

ect

the

wor

ld p

rice

of o

utpu

t in

that

sect

or.14

Bec

ause

sect

or fo

ur u

ses l

abor

, cap

ital,

and

land

in

prod

uctio

n, a

ny c

hang

es in

the

net c

osts

of c

apita

l and

labo

r are

off

set b

y ch

ange

s in

the

land

rent

s. T

he c

hang

es in

dom

estic

and

fore

ign

equi

libriu

m la

nd re

nts a

re d

eriv

ed fr

om th

e re

latio

n

betw

een

inpu

t cos

ts a

nd o

utpu

t pric

es in

sect

or fo

ur, a

s rep

rese

nted

by:

(5)

pw

rj

Lj

Kj

44

44

0j

df,

whe

re

is t

he la

nd re

nt in

cou

ntry

and

is

land

’s sh

are

of v

alue

add

ed in

sect

or fo

ur.

jj

4

Bec

ause

the

pric

e of

sect

or fo

ur o

utpu

t doe

s not

cha

nge,

the

chan

ge in

the

dom

estic

and

fore

ign

land

rent

s is d

eriv

ed fr

om (5

) as:

(6)

jL

jK

wr

4 4

4 4j

df,

-14-

The

dom

estic

land

rent

incr

ease

s in

resp

onse

to th

e co

rpor

ate

inco

me

tax

beca

use

the

tax

caus

es a

dec

reas

e in

bot

h th

e co

st o

f lab

or a

nd th

e co

st o

f cap

ital u

sed

by th

e no

ncor

pora

te

prod

ucer

s. In

con

trast

, the

fore

ign

land

rent

s can

rise

or f

all d

epen

ding

on

how

the

capi

tal

inte

nsity

of p

rodu

ctio

n in

sect

or fo

ur c

ompa

res w

ith th

e ca

pita

l int

ensi

ty o

f pro

duct

ion

in se

ctor

one.

Bec

ause

the

size

of t

he in

crea

se in

fore

ign

labo

r cos

ts a

nd d

ecre

ase

in fo

reig

n ca

pita

l cos

ts

are

cons

iste

nt w

ith a

con

stan

t pric

e of

sect

or o

ne o

utpu

t, fo

reig

n la

nd re

nts w

ill in

crea

se o

r

decr

ease

dep

endi

ng o

n w

heth

er se

ctor

four

pro

duct

ion

is le

ss o

r mor

e ca

pita

l-int

ensi

ve th

an

sect

or o

ne p

rodu

ctio

n.

Out

put p

rices

cha

nge

in se

ctor

s tw

o an

d th

ree,

the

othe

r cor

pora

te se

ctor

s, ac

cord

ing

to:

(a)

[

()

]p

wr

rid

Lid

Kic

1(7

)i

23,

(b)

p

wr

ifLi

fK

i

For b

oth

dom

estic

and

fore

ign

prod

ucer

s in

sect

ors t

wo

and

thre

e, th

e in

put p

rices

cha

nge

by th

e sa

me

perc

enta

ges a

s the

inpu

t pric

es fa

ced

by p

rodu

cers

in se

ctor

one

. B

ecau

se th

e

dom

estic

wag

e ra

te fa

lls a

nd th

e do

mes

tic c

orpo

rate

cos

t of c

apita

l ris

es, t

he d

omes

tic p

rices

of

outp

ut in

sect

ors t

wo

and

thre

e w

ill in

crea

se o

r dec

reas

e de

pend

ing

upon

whe

ther

pro

duct

ion

in

thos

e se

ctor

s is m

ore

or le

ss c

apita

l-int

ensi

ve th

an p

rodu

ctio

n in

sect

or o

ne.

In th

e fo

reig

n

coun

try, t

he p

rices

of o

utpu

ts fr

om se

ctor

s tw

o an

d th

ree

have

the

reve

rse

rela

tions

hip

to th

e

capi

tal i

nten

sity

of p

rodu

ctio

n in

sect

or o

ne b

ecau

se th

e fo

reig

n w

age

rate

goe

s up

and

the

fore

ign

cost

of c

apita

l goe

s dow

n by

the

sam

e am

ount

s in

all s

ecto

rs.

The

fore

ign

outp

ut p

rices

in se

ctor

s tw

o an

d th

ree

will

ther

efor

e in

crea

se if

pro

duct

ion

in th

ose

sect

ors i

s les

s cap

ital-

inte

nsiv

e th

an p

rodu

ctio

n in

sect

or o

ne.

Thos

e fo

reig

n pr

ices

will

dec

reas

e if

prod

uctio

n in

thos

e

sect

ors i

s mor

e ca

pita

l-int

ensi

ve th

an p

rodu

ctio

n in

sect

or o

ne.

-15-

For b

oth

coun

tries

, the

pric

e ch

ange

s for

the

outp

uts o

f sec

tor f

ive

are

give

n by

:

(8)

pw

rj

Lj

K5

55

jd

f,

The

pric

e of

the

dom

estic

out

put o

f sec

tor f

ive

will

dec

reas

e be

caus

e th

e do

mes

tic n

onco

rpor

ate

cost

s of b

oth

labo

r and

cap

ital i

nput

s fal

l. T

he fo

reig

n pr

ice

of th

e ou

tput

of s

ecto

r fiv

e be

have

s

in th

e sa

me

way

as t

he fo

reig

n ou

tput

pric

es fo

r sec

tors

two

and

thre

e: W

heth

er th

e fo

reig

n pr

ice

of se

ctor

five

out

put w

ill d

ecre

ase

or in

crea

se d

epen

ds o

n w

heth

er p

rodu

ctio

n in

sect

or fi

ve is

mor

e or

less

cap

ital i

nten

sive

than

pro

duct

ion

in se

ctor

one

.

IV.

Tax

Bur

dens

Bec

ause

indi

vidu

als c

onsu

me

all o

f the

ir in

com

es a

nd b

ecau

se th

e in

divi

dual

supp

lies o

f

labo

r and

cap

ital a

re fi

xed,

the

tota

l bur

den

of th

e co

rpor

ate

inco

me

tax

can

be m

easu

red

in te

rms

of th

e ch

ange

s it c

ause

s to

pers

onal

inco

mes

, adj

uste

d fo

r any

wel

fare

eff

ects

of c

hang

es in

the

rela

tive

pric

es o

f con

sum

er g

oods

. F

or th

e re

side

nts o

f eac

h co

untry

, per

sona

l inc

ome

can

be

deco

mpo

sed

as in

(9),

whe

re th

e in

itial

val

ue o

f dom

estic

out

put i

s arb

itrar

ily se

t equ

al to

1:

(9)

Yw

Lr

KY

YY

jj

jj

jLj

Kjj

jd

f,

whe

re

, , a

nd a

re th

e am

ount

s of i

ncom

eY

K KLj

L

j dY

K KKj

Kj

dY

K Kj

j d

paid

to th

e re

side

nt o

wne

rs o

f inc

ome

from

labo

r, ca

pita

l, an

d la

nd, r

espe

ctiv

ely,

in c

ount

ry j.

The

term

is

the

shar

e of

the

wor

ldw

ide

capi

tal s

tock

ow

ned

by re

side

nts o

f cou

ntry

j, a

nd

,j

L

, and

ar

e th

e in

itial

agg

rega

te o

utpu

t sha

res f

or la

bor,

capi

tal,

and

land

, res

pect

ivel

y. T

heK

15

The

num

eric

al a

pplic

atio

ns in

this

stud

y us

e th

e La

spey

res i

ndex

, whi

ch c

an c

ause

the

estim

ated

exc

ess b

urde

nsof

the

tax

to b

e ov

erst

ated

. Th

at b

ias d

isap

pear

s whe

n th

e ta

x ra

te is

ver

y sm

all,

in w

hich

cas

e th

e ex

cess

bur

den

ofth

e ta

x al

so a

ppro

ache

s zer

o.

-16-

tota

l bur

den

of th

e ta

x is

exp

ress

ed in

term

s of c

hang

es in

per

sona

l wag

e in

com

e, c

apita

l inc

ome,

labo

r inc

ome,

and

the

pric

es o

f con

sum

er g

oods

as:

(10)

Bd

Y PY

wY

rY

PY

jj j

Ljj

Kjj

jj

jj

df,

whe

re

initi

ally

equ

al to

1, i

s an

inde

x of

the

cost

of l

ivin

g in

cou

ntry

j.P

j ,

The

inte

ract

ion

betw

een

pers

onal

inco

me

and

the

chan

ge in

the

pric

e in

dex

in th

e la

st

term

of (

10) a

ccou

nts f

or a

con

sum

er b

urde

n th

at re

sults

from

cha

nges

in th

e re

lativ

e pr

ices

of

cons

umer

goo

ds.

Tax

burd

en is

def

ined

her

e as

an

equi

vale

nt v

aria

tion,

so th

e pr

ice

inde

x

mea

sure

s the

equ

ival

ent v

aria

tion

in c

onsu

mer

exp

endi

ture

whe

n co

nsum

er p

rices

cha

nge.

The

inde

x ac

coun

ts fo

r cha

nges

in th

e re

lativ

e pr

ices

of c

onsu

mer

goo

ds a

nd a

ny c

onsu

mer

subs

titut

ion

that

occ

urs i

n re

spon

se to

thos

e pr

ice

chan

ges.

Tha

t tru

e co

st-o

f-liv

ing

inde

x ca

n be

appr

oxim

ated

by

the

chan

ge in

a fi

xed-

shar

e La

spey

res p

rice

inde

x:

(11)

Ps

ps

pj

iij

j

i6

215

jd

f,

whe

re

is t

he in

itial

exp

endi

ture

shar

e fo

r con

sum

er g

ood

i, th

e j s

uper

scrip

t rep

rese

nts t

hes i

coun

try o

f res

iden

ce, a

nd th

e -j

supe

rscr

ipt r

epre

sent

s the

oth

er c

ount

ry.15

Equa

tion

(10)

show

s how

the

tota

l bur

den

can

be d

ecom

pose

d ac

cord

ing

to th

e so

urce

s

and

uses

of i

ncom

e. T

hat d

ecom

posi

tion

is c

onsi

sten

t with

the

way

that

tax

inci

denc

e is

mea

sure

d in

Har

berg

er (1

962)

and

Har

berg

er (1

995)

. If

con

sum

ers h

ave

iden

tical

hom

othe

tic

pref

eren

ces a

nd if

they

face

the

sam

e ch

ange

s in

cons

umer

pric

es, t

he e

ffec

t of t

he ta

x on

the

16 T

he te

rm “

real

” is

use

d he

re m

erel

y to

repr

esen

t the

adj

ustm

ent f

or c

hang

es in

rela

tive

pric

es.

-17-

dist

ribut

ion

of in

com

e is

inde

pend

ent o

f the

con

sum

er’s

bur

den.

For

exa

mpl

e, th

e ch

ange

in re

al

dom

estic

labo

r inc

ome,

exp

ress

ed a

s a fr

actio

n of

real

dom

estic

inco

me,

is in

depe

nden

t of t

he

cons

umer

’s b

urde

n.16

Alte

rnat

ivel

y, th

e co

nsum

er’s

bur

den

can

be d

ivid

ed b

etw

een

the

owne

rs o

f eac

h fa

ctor

acco

rdin

g to

(12)

, whi

ch c

ombi

nes t

he e

ffec

ts o

f the

tax

on th

e so

urce

s and

use

s of i

ncom

e.

(12)

BY

wP

Yr

PY

Pj

Ljj

jKj

jj

j(

)(

)(

)j

df,

Thos

e co

mbi

ned

mea

sure

s of b

urde

n ha

ve a

cle

ar in

tuiti

ve e

cono

mic

inte

rpre

tatio

n th

at

does

not

dep

end

on th

e ch

oice

of a

num

erai

re.

Def

ined

in th

at w

ay, b

urde

n ca

n be

thou

ght o

f as

the

chan

ge in

con

sum

ptio

n by

the

owne

rs o

f eac

h in

put.

For

the

owne

rs o

f eac

h fa

ctor

, it

mea

sure

s the

size

of a

lum

p-su

m ta

x to

war

d w

hich

thos

e ow

ners

wou

ld b

e in

diff

eren

t.

Con

sist

ent w

ith H

arbe

rger

(200

6) a

nd G

rave

lle a

nd S

met

ters

(200

6), t

he c

ombi

ned

mea

sure

s of b

urde

n in

(12)

are

use

d th

roug

hout

the

rest

of t

his s

tudy

. In

add

ition

to h

avin

g a

clea

r wel

fare

inte

rpre

tatio

n, th

e co

mbi

ned

mea

sure

s are

nee

ded

in o

rder

to m

ake

inte

rnat

iona

l

com

paris

ons b

etw

een

the

burd

ens i

mpo

sed

on d

omes

tic a

nd fo

reig

n re

side

nts.

Tha

t com

bina

tion

is n

eces

sary

bec

ause

fore

ign

and

dom

estic

resi

dent

s can

face

diff

eren

t cha

nges

in c

onsu

mer

pric

es w

hen

som

e ou

tput

s are

not

trad

ed in

tern

atio

nally

.

Exce

ss b

urde

n is

the

exce

ss o

f the

tota

l bur

den

over

the

real

val

ue o

f cor

pora

te ta

x

reve

nue:

(13)

Rr

Kq

PC

cCd

iKi

d

i[

()

()

]/(

)1

11

13

17 R

even

ue is

thus

mea

sure

d in

uni

ts o

f a b

undl

e of

dom

estic

con

sum

er g

oods

rath

er th

an in

term

s of t

he n

umer

aire

good

pro

duce

d in

sect

or o

ne.

Thus

, rev

enue

and

bur

den

are

mea

sure

d in

the

sam

e un

its.

Exce

ss b

urde

n is

then

sim

ply

any

exce

ss o

f tot

al b

urde

n ov

er th

e va

lue

of th

e lu

mp-

sum

gov

ernm

ent d

istri

butio

ns fi

nanc

ed b

y th

e ta

x.18

Bot

h ta

xes a

re re

ferr

ed to

as t

axes

“at

sour

ce”

beca

use

they

are

impo

sed

on c

apita

l inc

ome

base

d on

whe

re th

eca

pita

l is u

sed.

-18-

whe

re

is th

e in

itial

val

ue a

dded

by

prod

uctio

n in

sect

or i

and

the

sum

med

term

equ

als t

heq i

initi

al d

omes

tic c

orpo

rate

cap

ital s

tock

, all

expr

esse

d as

a sh

are

of th

e to

tal v

alue

of d

omes

tic

outp

ut.

The

real

val

ue o

f cor

pora

te re

venu

e eq

uals

the

real

val

ue o

f gov

ernm

ent p

urch

ases

of

dom

estic

con

sum

er g

oods

that

can

be

finan

ced

by th

e ta

x an

d re

dist

ribut

ed to

dom

estic

resi

dent

s.17

V.

A G

ener

al R

epla

cem

ent T

ax o

n th

e D

omes

tic U

se o

f Cap

ital

This

sect

ion

exam

ines

the

effe

cts o

f a g

ener

al re

plac

emen

t tax

on

the

inco

me

from

cap

ital

in a

ll do

mes

tic se

ctor

s. T

he g

ener

al ta

x ra

te is

cho

sen

so th

at it

will

fina

nce

the

sam

e re

al

gove

rnm

ent e

xpen

ditu

res o

n co

nsum

er g

oods

as t

he c

orpo

rate

tax

it re

plac

es.18

A c

ompa

rison

bet

wee

n th

ose

taxe

s pro

vide

s a w

ay to

isol

ate

the

effe

cts t

hat t

he c

orpo

rate

inco

me

tax

has o

n th

e do

mes

tic a

nd in

tern

atio

nal a

lloca

tions

of c

apita

l. I

n a

clos

ed e

cono

my,

the

corp

orat

e in

com

e ta

x af

fect

s eff

icie

ncy

and

inci

denc

e on

ly th

roug

h its

eff

ects

on

the

allo

catio

n of

inpu

ts b

etw

een

the

corp

orat

e an

d no

ncor

pora

te se

ctor

s. In

an

open

eco

nom

y, th

e

dom

estic

cor

pora

te in

com

e ta

x af

fect

s eff

icie

ncy

and

inci

denc

e th

roug

h its

eff

ect o

n th

e

allo

catio

n of

cap

ital b

oth

betw

een

the

dom

estic

cor

pora

te a

nd n

onco

rpor

ate

sect

ors a

nd b

etw

een

the

dom

estic

and

fore

ign

econ

omie

s. In

con

trast

, the

gen

eral

tax

affe

cts o

nly

the

inte

rnat

iona

l

allo

catio

n of

cap

ital.

Thu

s, a

com

paris

on b

etw

een

the

effe

cts o

f the

cor

pora

te ta

x an

d th

e ge

nera

l

tax

prov

ides

a w

ay to

sepa

rate

the

effe

cts t

he c

orpo

rate

tax

has b

ecau

se it

is im

pose

d on

ly o

n

19 T

he g

ener

al ta

x al

so re

pres

ents

a c

orpo

rate

inte

grat

ion

polic

y th

at im

pose

s a si

ngle

tax

rate

on

the

inco

me

from

all

dom

estic

cap

ital i

nves

tmen

t reg

ardl

ess o

f the

sect

or in

whi

ch th

at c

apita

l is i

nves

ted.

20

Equ

atio

n (1

4) is

der

ived

und

er th

e as

sum

ptio

n th

at th

e do

mes

tic a

nd fo

reig

n ag

greg

ate

parti

al in

put s

ubst

itutio

nel

astic

ities

equ

al e

ach

othe

r. F

or th

e ge

nera

l tax

, the

agg

rega

te c

hang

es in

cap

ital a

re g

iven

by

mod

ified

ver

sion

s of

(3),

whe

re (3

b) is

igno

red

and

the

aggr

egat

e do

mes

tic c

apita

l sto

ck a

nd c

hang

e in

the

dom

estic

cos

t of c

apita

l und

erth

e ge

nera

l tax

are

subs

titut

ed in

to (3

a).

Equa

tion

(14)

is d

eriv

ed b

y al

so n

otin

g th

at a

ggre

gate

cou

ntry

labo

rsu

pplie

s do

not c

hang

e an

d th

at th

e w

orld

cap

ital s

uppl

y is

fixe

d.

-19-

som

e do

mes

tic se

ctor

s fro

m th

e ef

fect

s it h

as b

ecau

se it

is n

ot im

pose

d on

the

use

of c

apita

l

abro

ad.19 U

nder

the

gene

ral t

ax, t

he d

omes

tic w

age

rate

falls

by

less

than

it d

oes u

nder

the

corp

orat

e in

com

e ta

x be

caus

e th

e re

quire

d re

plac

emen

t val

ue o

f the

gen

eral

tax

rate

, c

an b

eg,

low

er th

an th

e co

rres

pond

ing

corp

orat

e ta

x ra

te; t

he g

ener

al ta

x is

impo

sed

on a

bro

ader

bas

e. A

s

unde

r the

cor

pora

te in

com

e ta

x, th

e w

age

rate

is d

eter

min

ed in

sect

or o

ne: T

he d

omes

tic w

age

rate

is d

eter

min

ed in

the

sam

e w

ay a

s in

Equa

tion

(2a)

, but

the

perc

enta

ge c

hang

e in

the

sect

or

one

cost

of c

apita

l und

er th

e co

rpor

ate

tax

is re

plac

ed b

y its

per

cent

age

chan

ge u

nder

the

gene

ral

tax,

.

()

rr

gg

g1

The

perc

enta

ge c

hang

e in

the

equi

libriu

m (t

ax-e

xclu

sive

) ret

urn

to c

apita

l, w

hich

is n

ow

the

cost

of c

apita

l onl

y to

fore

ign

prod

ucer

s, is

giv

en b

y:20

(14)

rK

KK

gg

d

dg

Equa

tion

(14)

is si

mila

r to

(4),

but t

he c

orpo

rate

tax

rate

is re

plac

ed b

y th

e ge

nera

l tax

rate

, and

the

term

for t

he n

onco

rpor

ate

capi

tal s

tock

doe

s not

ent

er th

e eq

uatio

n be

caus

e al

l

dom

estic

sect

ors a

re su

bjec

t to

the

gene

ral t

ax.

Whe

n th

e ge

nera

l tax

rate

is e

xtre

mel

y sm

all,

the

seco

nd te

rm in

the

deno

min

ator

of (

14) d

isap

pear

s so

that

wor

ldw

ide

capi

tal i

ncom

e is

redu

ced

exac

tly b

y an

am

ount

equ

al to

the

reve

nue

colle

cted

by

the

tax.

As i

n B

radf

ord

(197

8), c

apita

l

-20-

owne

rs w

orld

wid

e be

ar e

xact

ly 1

00 p

erce

nt o

f a v

ery

smal

l tax

on

the

inco

me

from

cap

ital u

sed

by d

omes

tic p

rodu

cers

. H

owev

er, a

s sho

wn

in th

e nu

mer

ical

app

licat

ion

belo

w, t

he w

orld

wid

e

burd

en is

not

div

ided

exa

ctly

in p

ropo

rtion

to th

e do

mes

tic a

nd fo

reig

n ow

ners

hip

shar

es o

f

wor

ld c

apita

l, be

caus

e th

e ta

x ca

n ha

ve d

iffer

ent e

ffec

ts o

n th

e pr

ices

of d

omes

tic a

nd fo

reig

n

cons

umer

goo

ds, a

nd c

apita

l ow

ners

mus

t con

sum

e w

here

they

live

.

The

effe

ct th

at th

e ge

nera

l tax

on

capi

tal i

ncom

e at

sour

ce h

as o

n ou

tput

pric

es fo

llow

s

the

sam

e ec

onom

ic re

ason

ing

as th

e an

alys

is o

f the

cor

pora

te in

com

e ta

x, e

xcep

t tha

t the

pric

e

equa

tions

incl

ude

the

perc

enta

ge c

hang

e in

the

tax-

incl

usiv

e co

st o

f cap

ital f

or a

ll do

mes

tic

sect

ors r

athe

r tha

n ju

st in

the

corp

orat

e se

ctor

s.

The

real

val

ue o

f tax

reve

nue

unde

r the

gen

eral

tax

is g

iven

by

(15)

Rr

KP

gg

ggd

Kgd

[(

)(

)]/

()

11

1

whe

re, a

nd

is th

e in

itial

dom

estic

cap

ital s

tock

,[

()

]K

wr

rgd

dg

gg

1K

expr

esse

d as

a sh

are

of th

e va

lue

of o

utpu

t. T

he ta

x ra

te fo

r the

gen

eral

tax

is c

hose

n to

equ

ate

real

reve

nues

and

, thu

s, th

e lu

mp-

sum

redi

strib

utio

ns u

nder

the

gene

ral t

ax a

nd th

e co

rpor

ate

tax.

VI.

Pers

onal

Tax

es o

n D

omes

tic R

esid

ents

Pers

onal

taxe

s on

dom

estic

resi

dent

s als

o pr

ovid

e us

eful

pol

icy

alte

rnat

ives

aga

inst

whi

ch

to e

valu

ate

the

inte

rnat

iona

l eff

ects

of t

he c

orpo

rate

inco

me

tax

and

gene

ral t

ax.

Such

per

sona

l

taxe

s are

non

dist

ortio

nary

und

er th

e as

sum

ptio

ns o

f the

mod

el u

sed

in th

is st

udy,

bec

ause

the

pers

onal

supp

lies o

f lab

or a

nd c

apita

l are

fixe

d an

d do

mes

tic re

side

nts c

anno

t mov

e ab

road

to

esca

pe ta

xatio

n. A

s a re

sult,

a p

erso

nal t

ax o

n la

bor i

ncom

e is

bor

ne e

ntire

ly b

y la

bor;

a pe

rson

al

21 T

he a

ppen

dix

com

pare

s the

resu

lts u

nder

alte

rnat

ive

shar

e as

sum

ptio

ns c

onsi

sten

t with

Har

berg

er (1

995)

.22

Tha

t val

ue is

bas

ed o

n es

timat

es in

Ham

erm

esh

and

Gra

nt (1

979)

. Th

e re

sults

of t

he a

pplic

atio

n in

the

curr

ent

stud

y ar

e no

t ver

y se

nsiti

ve to

a c

hang

e in

that

val

ue to

1.0

.

-21-

tax

on th

e w

orld

wid

e in

com

e of

the

dom

estic

ow

ners

of c

apita

l is b

orne

ent

irely

by

thos

e ow

ners

;

and

a un

iform

tax

on th

e pe

rson

al in

com

e or

con

sum

ptio

n of

dom

estic

resi

dent

s is b

orne

by

thos

e

resi

dent

s in

prop

ortio

n to

thei

r ini

tial s

hare

s of d

omes

tic p

erso

nal i

ncom

e.

VII

.A

Num

eric

al A

pplic

atio

n

The

mod

el c

an b

e ap

plie

d ba

sed

on v

ery

few

ass

umpt

ions

abo

ut th

e ec

onom

y. S

hare

assu

mpt

ions

(Tab

le 1

) app

ly fo

r the

Uni

ted

Stat

es a

nd a

re ta

ken

from

Gra

velle

and

Sm

ette

rs

(200

6).21

The

cap

ital i

nten

sitie

s of s

ecto

rs o

ne a

nd tw

o ar

e in

itial

ly e

quat

ed fo

r sim

plic

ity.

Whe

n

thos

e ca

pita

l int

ensi

ties a

re e

qual

, the

inci

denc

e re

sults

are

the

sam

e as

if th

e fir

st tw

o se

ctor

s are

com

bine

d in

to o

ne se

ctor

for w

hich

the

fore

ign

and

dom

estic

out

puts

are

per

fect

subs

titut

es.

In

othe

r wor

ds, t

he fa

ct th

at se

ctor

two

prod

uces

fore

ign

and

dom

estic

out

puts

that

are

not

per

fect

subs

titut

es d

oes n

ot a

ffec

t the

inci

denc

e re

sults

whe

n th

e fir

st tw

o se

ctor

s hav

e th

e sa

me

capi

tal

inte

nsiti

es.

A la

ter p

art o

f the

app

licat

ion

exam

ines

how

inci

denc

e ch

ange

s whe

n th

ose

capi

tal

inte

nsiti

es a

re d

iffer

ent.

The

dom

estic

eco

nom

y ac

coun

ts fo

r 30

perc

ent o

f wor

ld o

utpu

t. In

addi

tion,

dom

estic

resi

dent

s are

ass

umed

to o

wn

30 p

erce

nt o

f wor

ld o

utpu

t, so

the

coun

try is

neith

er a

net

inte

rnat

iona

l len

der n

or a

net

inte

rnat

iona

l bor

row

er.

That

ass

umpt

ion

is a

lso

rela

xed

late

r in

this

stud

y. C

onsi

sten

t with

Mut

ti an

d G

rube

rt (1

985)

, the

par

tial e

last

icity

of

inpu

t dem

and

subs

titut

ion

betw

een

capi

tal a

nd la

bor i

s ini

tially

set e

qual

to 0

.6.22

It is

not

obv

ious

how

to c

hoos

e th

e rig

ht v

alue

for t

he (t

ax-e

xclu

sive

) cor

pora

te ta

x ra

te

beca

use

the

actu

al U

.S. i

ncom

e ta

x sy

stem

is c

onsi

dera

bly

mor

e co

mpl

ex th

an in

the

mod

el.

Afte

r acc

ount

ing

for p

erso

nal a

nd b

usin

ess i

ncom

e ta

xes,

depr

ecia

tion

rule

s, bu

sine

ss fi

nanc

e,

23 E

ven

thou

gh c

apita

l is p

erfe

ctly

mob

ile, o

nly

a fin

ite p

erce

ntag

e of

the

dom

estic

cap

ital s

tock

is re

allo

cate

dab

road

in re

spon

se to

the

tax,

bec

ause

a re

duct

ion

in th

e ca

pita

l sto

ck in

crea

ses t

he m

argi

nal p

rodu

ct o

f cap

ital i

n th

edo

mes

tic c

orpo

rate

sect

ors.

-22-

and

othe

r fac

tors

, the

Con

gres

sion

al B

udge

t Off

ice

(200

5b) f

inds

that

the

U.S

. cor

pora

te ta

x

caus

es th

e co

st o

f cap

ital i

n th

e U

.S. c

orpo

rate

sect

ors t

o be

6.2

5 pe

rcen

t hig

her t

han

the

cost

of

capi

tal i

n th

e no

ncor

pora

te se

ctor

s. T

hat i

s the

tax

rate

use

d in

this

app

licat

ion.

Alte

rnat

ivel

y, a

s

a be

nchm

ark,

the

mod

el’s

pre

dict

ions

are

cal

cula

ted

whe

n th

e ta

x ra

te is

infin

itesi

mal

ly sm

all,

whi

ch h

as th

e ad

vant

age

that

thos

e pr

edic

tions

dep

end

on n

eith

er th

e ac

tual

U.S

. tax

rate

nor

the

inpu

t sub

stitu

tion

elas

ticity

, but

can

still

be

used

to c

hara

cter

ize

the

inci

denc

e ef

fect

s of a

smal

l

chan

ge in

the

corp

orat

e in

com

e ta

x.

Econ

omic

Res

pons

es to

the

Cor

pora

te In

com

e Ta

x

The

mod

el p

redi

cts a

var

iety

of e

cono

mic

resp

onse

s to

the

intro

duct

ion

of th

e co

rpor

ate

tax

in a

new

long

-run

equ

ilibr

ium

(Tab

le 2

). In

resp

onse

to a

n in

crea

se in

the

dom

estic

cor

pora

te

cost

of c

apita

l, th

e ca

pita

l sto

cks f

all i

n th

e do

mes

tic c

orpo

rate

sect

ors a

nd ri

se in

the

dom

estic

nonc

orpo

rate

sect

ors a

nd in

the

fore

ign

coun

try.

The

dom

estic

cor

pora

te c

apita

l sto

ck fa

lls b

y

alm

ost 4

per

cent

. Th

e ag

greg

ate

dom

estic

cap

ital s

tock

falls

by

2 pe

rcen

t, w

hich

impl

ies t

hat t

he

arc

elas

ticity

of t

he d

omes

tic c

apita

l sto

ck w

ith re

spec

t to

the

6.25

per

cent

cor

pora

te ta

x is

0.3

2.

For e

ach

one

perc

ent b

y w

hich

the

tax

initi

ally

incr

ease

s the

cor

pora

te c

ost o

f cap

ital,

the

dom

estic

cap

ital s

tock

falls

by

0.32

per

cent

.23

Thos

e in

vest

men

t res

pons

es d

rive

dow

n th

e co

st o

f cap

ital b

y 1.

2 pe

rcen

t for

the

unta

xed

prod

ucer

s in

the

dom

estic

non

corp

orat

e se

ctor

s and

the

fore

ign

sect

ors.

As a

resu

lt, th

e co

st o

f

capi

tal f

or d

omes

tic c

orpo

rate

pro

duce

rs in

crea

ses b

y on

ly 5

.0 p

erce

nt in

resp

onse

to th

e 6.

25

perc

ent c

orpo

rate

tax.

-23-

The

real

loca

tion

of c

apita

l als

o af

fect

s wag

es.

Bec

ause

ther

e is

less

dom

estic

cap

ital,

and

labo

r can

not e

mig

rate

, the

dom

estic

wag

e ra

te fa

lls b

y 1.

1 pe

rcen

t, dr

iven

by

com

petit

ion

in

sect

or o

ne (E

quat

ions

1 a

nd 2

). T

he d

omes

tic w

age

rate

has

to fa

ll by

that

am

ount

in o

rder

to

offs

et th

e in

crea

sed

corp

orat

e co

st o

f cap

ital.

Sim

ilarly

, the

fore

ign

wag

e in

crea

ses b

y 0.

25

perc

ent b

ecau

se th

e la

rger

fore

ign

capi

tal s

tock

impr

oves

the

prod

uctiv

ity o

f for

eign

labo

r. T

he

fore

ign

wag

e ra

te in

crea

ses b

y ju

st e

noug

h fo

r the

resu

lting

incr

ease

in la

bor c

osts

to fu

lly o

ffse

t

the

decr

ease

in c

apita

l cos

ts fo

r sec

tor o

ne o

f the

fore

ign

econ

omy.

Bot

h do

mes

tic a

nd fo

reig

n la

nd re

nts i

ncre

ase.

The

dom

estic

land

rent

rise

s bec

ause

the

cost

s of l

abor

and

cap

ital b

oth

decl

ine

for s

ecto

r fou

r (ag

ricul

ture

), so

that

land

bec

omes

mor

e

prod

uctiv

e. F

orei

gn la

nd re

nt ri

ses b

ecau

se se

ctor

four

is m

ore

capi

tal-i

nten

sive

than

sect

or o

ne,

so th

e de

clin

e of

the

fore

ign

cost

of c

apita

l mor

e th

an fu

lly o

ffse

ts th

e in

crea

sed

cost

of l

abor

to

sect

or fo

ur o

f the

fore

ign

econ

omy.

Ove

rall,

con

sum

er p

rices

fall

slig

htly

in b

oth

coun

tries

. O

utpu

t pric

es d

o no

t cha

nge

in

the

first

two

sect

ors (

mos

tly m

anuf

actu

ring)

, be

caus

e se

ctor

one

pro

duce

s the

num

erai

re a

nd

sect

or tw

o ha

s the

sam

e ca

pita

l int

ensi

ty a

s sec

tor o

ne.

Thus

, any

wag

e ch

ange

that

exa

ctly

offs

ets t

he in

crea

sed

cost

of c

apita

l in

sect

or o

ne w

ill a

lso

exac

tly o

ffse

t the

incr

ease

d co

st o

f

capi

tal i

n se

ctor

two.

Sec

tor t

hree

, the

oth

er c

orpo

rate

sect

or (u

tiliti

es a

nd tr

ansp

orta

tion)

, is

mor

e ca

pita

l-int

ensi

ve th

an se

ctor

one

. A

s a re

sult,

the

pric

e of

the

dom

estic

sect

or th

ree

outp

ut

incr

ease

s bec

ause

the

rise

in th

e co

rpor

ate

cost

of c

apita

l mor

e th

an fu

lly o

ffse

ts th

e de

crea

se in

labo

r cos

ts.

Sim

ilarly

, the

pric

e of

sect

or th

ree

outp

ut in

the

fore

ign

econ

omy

falls

slig

htly

beca

use

the

decr

ease

d fo

reig

n co

st o

f cap

ital o

ver-

com

pens

ates

for t

he in

crea

sed

fore

ign

labo

r

cost

. Th

e pr

ice

of o

utpu

t in

sect

or fo

ur (a

gric

ultu

re) d

oes n

ot c

hang

e, b

y as

sum

ptio

n. F

or

24 T

hat i

s the

wor

ldw

ide

dead

wei

ght l

oss,

or e

xces

s bur

den

from

the

tax.

The

dea

dwei

ght l

oss i

s rel

ativ

ely

smal

lbe

caus

e th

e ta

x is

smal

l and

ther

e ar

e no

oth

er p

re-e

xist

ing

dist

ortio

ns.

Bec

ause

this

stud

y is

abo

ut th

e di

strib

utio

nof

the

burd

en, i

t wou

ld b

e su

ffic

ient

to a

ssum

e th

at th

e ta

x ra

te is

infin

itesi

mal

, as i

s don

e in

a la

ter s

ectio

n, b

elow

. H

owev

er, u

sing

a sm

all f

inite

tax

rate

allo

ws t

he n

umer

ical

app

licat

ion

to il

lust

rate

the

pote

ntia

l siz

e an

d na

ture

of

som

e of

the

impo

rtant

eco

nom

ic e

ffec

ts o

f the

tax.

The

val

ue o

btai

ned

for e

xces

s bur

den

in th

e ex

ampl

e sh

ould

ther

efor

e no

t be

take

n se

rious

ly a

s an

estim

ate

of th

e ov

eral

l exc

ess b

urde

n of

the

corp

orat

e in

com

e ta

x.

-24-

dom

estic

out

put o

f sec

tor f

ive

(hou

sing

and

reta

il se

rvic

es),

the

dom

estic

pric

e de

clin

es b

ecau

se

both

cap

ital a

nd la

bor b

ecom

e ch

eape

r for

that

sect

or.

The

fore

ign

pric

e of

sect

or fi

ve o

utpu

t

also

dec

lines

bec

ause

sect

or fi

ve is

mor

e ca

pita

l-int

ensi

ve th

an se

ctor

one

, so

the

effe

ct o

f a

decr

ease

in th

e fo

reig

n co

st o

f cap

ital d

omin

ates

the

incr

ease

in th

e fo

reig

n w

age

rate

.

Rea

l priv

ate

inco

mes

, bef

ore

gove

rnm

ent t

rans

fers

, cha

nge

for b

oth

dom

estic

and

fore

ign

resi

dent

s. T

hose

cha

nges

are

the

tax

burd

ens.

For

dom

estic

resi

dent

s, la

bor a

nd c

apita

l inc

omes

each

fall

by a

bout

1 p

erce

nt.

A sm

all o

vera

ll de

crea

se in

the

dom

estic

pric

es o

f con

sum

er g

oods

only

slig

htly

off

sets

the

fall

in d

omes

tic w

ages

and

the

decr

ease

in th

e do

mes

tic c

apita

l ow

ners

’

retu

rn to

thei

r sha

re o

f the

wor

ld c

apita

l sto

ck.

In c

ontra

st, r

eal i

ncom

e pa

id to

dom

estic

land

owne

rs in

crea

ses b

ecau

se la

nd re

nts i

ncre

ase

and

cons

umer

pric

es fa

ll. W

hen

com

bine

d, th

e

aggr

egat

e re

al d

omes

tic p

rivat

e in

com

e fa

lls b

y 0.

978

perc

ent b

efor

e go

vern

men

t tra

nsfe

rs.

Bec

ause

the

real

val

ue o

f rev

enue

from

the

tax

(the

real

val

ue o

f gov

ernm

ent p

urch

ases

of

cons

umer

goo

ds fi

nanc

ed b

y th

e ta

x) e

qual

s onl

y 0.

944

perc

ent o

f the

initi

al d

omes

tic in

com

e,

the

dom

estic

real

nat

iona

l inc

ome

is re

duce

d by

abo

ut .0

35 p

erce

nt (n

ot sh

own

in T

able

2).

Tha

t

natio

nal l

oss e

qual

s abo

ut 3

.7 p

erce

nt o

f the

reve

nue

from

the

tax

(100

*0.0

35/0

.944

).24

Fore

ign

labo

r ben

efits

from

bot

h an

incr

ease

in th

e fo

reig

n w

age

rate

and

an

over

all

decr

ease

in fo

reig

n co

nsum

er p

rices

. Fo

reig

n ca

pita

l ow

ners

lose

from

a re

duce

d re

turn

to th

eir

capi

tal.

Tha

t los

s is o

ffse

t som

ewha

t by

a re

duce

d fo

reig

n co

st o

f con

sum

er g

oods

. Fo

reig

n la

nd

-25-

owne

rs b

enef

it sl

ight

ly fr

om a

n in

crea

se in

fore

ign

land

rent

s and

a d

ecre

ase

in th

e co

st o

f

fore

ign

cons

umer

goo

ds.

Ove

rall,

the

gain

s of f

orei

gn w

orke

rs a

nd la

ndow

ners

are

exa

ctly

off

set b

y th

e lo

sses

of

fore

ign

capi

tal o

wne

rs so

that

non

e of

the

net b

urde

n of

the

tax

is e

xpor

ted

unde

r the

bas

ic

assu

mpt

ions

. In

eff

ect,

the

dom

estic

cor

pora

te ta

x sh

ifts t

he fo

reig

n di

strib

utio

n of

inco

me

tow

ard

labo

r and

land

owne

rs a

nd a

way

from

fore

ign

capi

tal o

wne

rs.

Und

er a

ltern

ativ

e

assu

mpt

ions

, as e

xam

ined

late

r in

this

app

licat

ion,

the

tax

can

also

shift

eith

er a

net

bur

den

or a

net b

enef

it to

fore

ign

resi

dent

s.

Burd

ens o

f the

Cor

pora

te In

com

e Ta

x

Und

er th

e ba

sic

assu

mpt

ions

, dom

estic

labo

r and

cap

ital o

wne

rs b

ear t

he c

orpo

rate

tax

roug

hly

in p

ropo

rtion

to th

eir i

nitia

l sha

res o

f inc

ome.

Exp

ress

ed a

s sha

res o

f rea

l tax

reve

nue

(Tab

le 3

), th

e bu

rden

s im

pose

d on

dom

estic

wor

kers

and

cap

ital o

wne

rs a

re ju

st a

bove

thei

r

initi

al sh

ares

of d

omes

tic in

com

e. D

omes

tic la

bor

bear

s 73.

7 pe

rcen

t of t

he c

orpo

rate

tax

burd

en

and

rece

ives

abo

ut 7

0 pe

rcen

t of i

ncom

e in

the

no-ta

x eq

uilib

rium

. D

omes

tic c

apita

l ow

ners

bea

r

32.5

per

cent

of t

he c

orpo

rate

tax

burd

en a

nd re

ceiv

e ab

out 2

9 pe

rcen

t of i

ncom

e in

the

no-ta

x

equi

libriu

m.

Dom

estic

land

owne

rs b

enef

it by

2.5

per

cent

of t

he re

venu

e.

The

dom

estic

cor

pora

te in

com

e ta

x sh

ifts t

he fo

reig

n di

strib

utio

n of

inco

me

away

from

capi

tal o

wne

rs to

war

d la

bor a

nd, s

light

ly, t

owar

d la

ndow

ners

. Fo

reig

n la

bor’

s ben

efit

is a

bout

equa

l to

dom

estic

labo

r’s l

oss,

but t

hat b

enef

it to

fore

ign

labo

r is a

lmos

t exa

ctly

off

set b

y th

e lo

ss

to fo

reig

n ca

pita

l ow

ners

.

25 N

ot sh

own

in T

able

3, w

orld

wid

e ca

pita

l inc

ome

is re

duce

d by

119

.3 p

erce

nt o

f the

tax

reve

nue.

How

ever

, ade

clin

e in

dom

estic

and

fore

ign

cons

umer

pric

es o

ffse

ts p

art o

f tha

t cap

ital i

ncom

e re

duct

ion

so th

at th

e bu

rden

for

capi

tal o

wne

rs w

orld

wid

e eq

uals

104

.7 p

erce

nt o

f the

tax

reve

nue.

-26-

Whe

n m

easu

red

on a

n ag

greg

ate

wor

ldw

ide

basi

s, la

bor b

ears

ver

y lit

tle (2

.4 p

erce

nt o

f

the

reve

nue)

of t

he b

urde

n fr

om th

e co

rpor

ate

inco

me

tax.

In

cont

rast

, cap

ital o

wne

rs w

orld

wid

e

bear

slig

htly

mor

e th

an 1

00 p

erce

nt o

f the

bur

den

(104

.7 p

erce

nt o

f the

reve

nue)

, alm

ost i

n

prop

ortio

n to

the

dom

estic

and

fore

ign

owne

rshi

p sh

ares

of c

apita

l.25

Thos

e w

orld

wid

e im

plic

atio

ns a

re si

mila

r to

the

cent

ral p

redi

ctio

ns o

f the

clo

sed-

econ

omy

anal

ysis

of H

arbe

rger

(196

2), i

n w

hich

all

capi

tal o

wne

rs b

ear t

he fu

ll bu

rden

of t

he

U.S

. cor

pora

te ta

x an

d la

bor e

scap

es th

e bu

rden

. Th

e es

sent

ial d

iffer

ence

from

the

clos

ed

econ

omy

is th

at b

oth

labo

r and

cap

ital c

an b

e re

allo

cate

d fr

eely

bet

wee

n se

ctor

s in

the

clos

ed

econ

omy,

but

onl

y ca

pita

l can

be

real

loca

ted

betw

een

coun

tries

in th

e op

en e

cono

my.

Wor

ldw

ide,

cap

ital o

wne

rs st

ill d

o no

t esc

ape

the

tax

in th

e op

en e

cono

my,

but

dom

estic

labo

r

bear

s a b

urde

n be

caus

e do

mes

tic w

orke

rs c

anno

t em

igra

te to

take

adv

anta

ge o

f an

incr

ease

d

fore

ign

wag

e ra

te.

Dom

estic

cap

ital o

wne

rs c

an e

scap

e pa

rt of

the

burd

en b

ecau

se, u

nlik

e

wor

kers

, the

y do

not

hav

e to

live

whe

re th

eir c

apita

l is u

sed.

If

labo

r cou

ld m

ove

free

ly

inte

rnat

iona

lly, t

he d

omes

tic a

nd fo

reig

n w

ages

wou

ld b

e eq

ual.

In th

at c

ase,

ana

lysi

s of t

he

open

-eco

nom

y in

cide

nce

wou

ld b

e ju

st li

ke a

naly

sis o

f the

clo

sed-

econ

omy

inci

denc

e. F

or su

ch

an o

pen

econ

omy,

all

fore

ign

sect

ors w

ould

sim

ply

be p

art o

f the

non

corp

orat

e se

ctor

s.

Oth

erw

ise,

the

clos

ed-e

cono

my

anal

ysis

cou

ld b

e ap

plie

d di

rect

ly.

-27-

Econ

omic

Res

pons

es to

the

Gen

eral

Rep

lace

men

t Tax

The

econ

omic

cha

nges

und

er th

e ge

nera

l tax

are

diff

eren

t fro

m th

e ch

ange

s und

er th

e

corp

orat

e ta

x (T

able

2) b

ecau

se th

e ge

nera

l tax

rate

is lo

wer

than

the

corp

orat

e ta

x ra

te a

nd th

e

gene

ral t

ax is

impo

sed

on a

ll do

mes

tic se

ctor

s rat

her t

han

just

the

corp

orat

e se

ctor

s.

Com

pare

d to

the

corp

orat

e ta

x, th

e fo

reig

n co

st o

f cap

ital d

oes n

ot d

eclin

e by

as m

uch

unde

r the

gen

eral

tax

beca

use

less

of t

he w

orld

cap

ital s

tock

is re

allo

cate

d ab

road

in re

spon

se to

the

gene

ral t

ax.

The

dom

estic

cos

t of c

apita

l inc

reas

es in

all

sect

ors,

but b

y le

ss th

an h

alf a

s

muc

h as

in th

e do

mes

tic c

orpo

rate

sect

ors u

nder

the

corp

orat

e ta

x. A

s a re

sult,

the

dom

estic

wag

e ra

te d

oes n

ot h

ave

to d

ecre

ase

by a

s muc

h as

und

er th

e co

rpor

ate

inco

me

tax,

bec

ause

less

capi

tal h

as to

be

real

loca

ted

away

from

sect

or o

ne in

ord

er fo

r the

resu

lting

dec

reas

e in

labo

r

cost

s to

fully

off

set t

he in

crea

se in

cap

ital c

osts

. Th

e fo

reig

n w

age

rate

incr

ease

s by

slig

htly

less

than

it d

oes u

nder

the

corp

orat

e ta

x, a

lso

beca

use

less

cap

ital i

s rea

lloca

ted

abro

ad.

The

dom

estic

land

rent

dec

lines

und

er th

e ge

nera

l tax

bec

ause

the

pric

es o

f lab

or a

nd c

apita

l cha

nge

by th

e

sam

e am

ount

s in

ever

y do

mes

tic se

ctor

. Th

e do

mes

tic la

nd re

nt fa

lls b

ecau

se se

ctor

four

is m

ore

capi

tal-i

nten

sive

than

sect

or o

ne.

The

fore

ign

land

rent

incr

ease

s by

slig

htly

less

than

it d

oes

unde

r the

cor

pora

te ta

x.

Dom

estic

con

sum

er p

rices

act

ually

incr

ease

und

er th

e ge

nera

l tax

. Th

e pr

ice

of se

ctor

thre

e ou

tput

(util

ities

and

tran

spor

tatio

n) in

crea

ses b

y le

ss th

an it

doe

s und

er th

e co

rpor

ate

tax.

But

, in

cont

rast

to th

e co

rpor

ate

tax,

the

pric

e of

sect

or fi

ve o

utpu

t (ho

usin

g an

d re

tail

serv

ices

)

incr

ease

s bec

ause

that

sect

or’s

cos

t of c

apita

l inc

reas

es u

nder

the

gene

ral t

ax, a

nd se

ctor

five

prod

uctio

n is

mor

e ca

pita

l-int

ensi

ve th

an p

rodu

ctio

n in

sect

or o

ne.

In c

ontra

st, f

orei

gn c

onsu

mer

pric

es d

eclin

e by

slig

htly

less

ove

rall

than

und

er th

e co

rpor

ate

tax.

-28-

Thos

e ec

onom

ic d

iffer

ence

s fro

m th

e co

rpor

ate

tax

impl

y th

at, i

f the

gen

eral

tax

wer

e to

repl

ace

the

corp

orat

e ta

x, c

apita

l wou

ld b

e re

allo

cate

d to

the

dom

estic

cor

pora

te se

ctor

s and

away

from

the

fore

ign

coun

try a

nd th

e do

mes

tic n

onco

rpor

ate

sect

ors.

The

agg

rega

te d

omes

tic

capi

tal s

tock

wou

ld in

crea

se, c

ausi

ng d

omes

tic w

ages

to a

lso

incr

ease

. Th

e fo

reig

n ca

pita

l sto

ck

wou

ld d

ecre

ase,

cau

sing

the

fore

ign

wag

e ra

te to

fall

and

the

fore

ign

cost

of c

apita

l to

incr

ease

.

Dom

estic

and

fore

ign

land

rent

s wou

ld fa

ll, e

spec

ially

the

dom

estic

rent

s. D

omes

tic c

onsu

mer

pric

es w

ould

incr

ease

and

fore

ign

cons

umer

pric

es w

ould

incr

ease

ver

y sl

ight

ly.

Rep

lace

men

t of t

he c

orpo

rate

tax

by th

e ge

nera

l tax

wou

ld a

lso

caus

e re

al p

rivat

e

inco

mes

to c

hang

e. D

omes

tic la

bor w

ould

gai

n be

caus

e th

e do

mes

tic w

age

incr

ease

wou

ld b

e

mor

e th

an la

rge

enou

gh to

off

set t

he in

crea

se in

dom

estic

con

sum

er p

rices

. Fo

reig

n la

bor w

ould

lose

bec

ause

fore

ign

wag

es w

ould

fall

whi

le fo

reig

n co

nsum

er p

rices

wou

ld ri

se.

Bec

ause

dom

estic

con

sum

er p

rices

wou

ld in

crea

se, d

omes

tic c

apita

l ow

ners

wou

ld b

e w

orse

off

than

unde

r the

cor

pora

te ta

x, e

ven

thou

gh th

eir c

apita

l wou

ld b

e us

ed m

ore

effic

ient

ly w

orld

wid

e th

an

unde

r the

cor

pora

te ta

x. B

ut fo

reig

n ca

pita

l ow

ners

wou

ld b

e be

tter o

ff b

ecau

se th

e fo

reig

n

cons

umer

pric

es w

ould

not

incr

ease

by

enou

gh to

off

set t

heir

bene

fit fr

om th

e m

ore

effic

ient

use

of c

apita

l. L

ando

wne

rs, e

spec

ially

dom

estic

land

owne

rs,

wou

ld lo

se fr

om th

e re

plac

emen

t tax

.

As u

nder

the

corp

orat

e ta

x, a

ggre

gate

real

fore

ign

inco

me

wou

ld n

ot c

hang

e un

der t

he

repl

acem

ent t

ax.

Dom

estic

nat

iona

l inc

ome

wou

ld in

crea

se sl

ight

ly b

ecau

se th

e ge

nera

l tax

at

sour

ce w

ould

ach

ieve

a m

ore

effic

ient

dom

estic

allo

catio

n of

cap

ital t

han

the

corp

orat

e ta

x.

-29-

Burd

ens o

f the

Gen

eral

Rep

lace

men

t Tax

If th

e co

rpor

ate

tax

wer

e re

plac

ed b

y th

e ge

nera

l tax

, the

exc

ess b

urde

n w

ould

be

redu

ced

(Tab

le 3

). U

nder

the

gene

ral t

ax, t

he e

xces

s bur

den

wou

ld d

eclin

e by

alm

ost h

alf f

rom

3.7

perc

ent t

o ju

st 2

.0 p

erce

nt o

f rev

enue

bec

ause

cap

ital w

ould

be

allo

cate

d m

ore

effic

ient

ly.

Dom

estic

cap

ital w

ould

then

pro

vide

the

sam

e m

argi

nal r

etur

n in

all

sect

ors.

Som

e ca

pita

l wou

ld

also

be

real

loca

ted

from

abr

oad,

so th

at th

e di

ffer

ence

bet

wee

n th

e do

mes

tic a

nd fo

reig

n pr

e-ta

x

retu

rns w

ould

be

smal

ler t

han

it is

und

er th

e co

rpor

ate

tax.

All

of th

e be

nefit

of t

hat i

ncre

ase

in

effic

ienc

y w

ould

go

to d

omes

tic re

side

nts,

as a

n in

crea

se in

real

dom

estic

nat

iona

l inc

ome

equa

l

to 1

.7 p

erce

nt o

f the

tax

reve

nue.

The

re w

ould

be

no c

hang

e in

the

real

fore

ign

natio

nal i

ncom

e.

Rep

lace

men

t by

the

gene

ral t

ax w

ould

als

o ch

ange

the

dist

ribut

ion

of ta

x bu

rden

s

(Tab

le 3

). It

wou

ld t

rans

fer r

ough

ly 1

3 pe

rcen

t of t

he b

urde

n aw

ay fr

om d

omes

tic la

bor a

nd

tow

ard

dom

estic

cap

ital o

wne

rs a

nd la

ndow

ners

. It

wou

ld a

lso

trans

fer a

bout

10

perc

ent o

f the

burd

en a

way

from

fore

ign

capi

tal o

wne

rs to

war

d fo

reig

n la

bor a

nd la

ndow

ners

.

Diff

eren

tial B

urde

ns o

f Oth

er T

axes

The

pers

onal

taxe

s als

o pr

ovid

e us

eful

com

paris

ons (

Tabl

e 3)

. U

nder

the

assu

mpt

ions

of

the

mod

el u

sed

in th

is st

udy,

non

e of

thos

e ta

xes d

isto

rt be

havi

or b

ecau

se e

ach

is im

pose

d on

dom

estic

resi

dent

s who

can

not

mov

e ab

road

to e

scap

e th

e ta

x, n

or c

an th

ey c

hang

e th

eir l

abor

supp

lies o

r sav

ings

beh

avio

r. R

epla

cem

ent o

f the

cor

pora

te in

com

e ta

x by

any

of t

hose

taxe

s

wou

ld th

eref

ore

elim

inat

e th

e ex

cess

bur

den

and

exac

tly re

vers

e th

e di

strib

utio

nal e

ffec

ts th

at th

e

corp

orat

e ta

x ha

s on

fore

ign

resi

dent

s. F

orei

gn la

bor a

nd la

ndow

ners

wou

ld b

e w

orse

off

by

an

amou

nt th

at is

tran

sfer

red,

exa

ctly

, to

fore

ign

capi

tal o

wne

rs.

26 T

hat i

s not

how

the

U.S

. cor

pora

te ta

x is

des

crib

ed le

gally

, but

how

it w

orks

in p

ract

ice

as a

resu

lt of

the

com

bine

d ef

fect

s of a

ll in

tern

atio

nal t

ax ru

les a

nd c

orpo

rate

beh

avio

r (se

e G

rube

rt, 2

004)

.

-30-

Dom

estic

labo

r wou

ld b

ear a

ll of

the

burd

en o

f the

wag

e ta

x, so

thei

r bur

den

wou

ld

incr

ease

by

abou

t 26

perc

ent o

f the

reve

nue

unde

r the

repl

acem

ent t

ax.

The

burd

en sh

ares

of

dom

estic

and

fore

ign

capi

tal o

wne

rs w

ould

dec

reas

e an

d th

e bu

rden

shar

es o

f for

eign

labo

r

wou

ld in

crea

se b

y am

ount

s equ

al to

thei

r bur

den

shar

es o

f the

cor

pora

te ta

x. O

n a

wor

ldw

ide

basi

s, a

dom

estic

wag

e re

plac

emen

t tax

wou

ld sh

ift ro

ughl

y th

e en

tire

burd

en fr

om c

apita

l

owne

rs to

dom

estic

labo

r.

Dom

estic

ow

ners

of c

apita

l wou

ld b

ear t

he fu

ll bu

rden

of a

dom

estic

tax

on th

eir

wor

ldw

ide

capi

tal i

ncom

e. I

f tha

t tax

was

use

d to

repl

ace

the

corp

orat

e ta

x, th

eir s

hare

of t

he ta

x

burd

en w

ould

incr

ease

by

67.5

per

cent

of t

he re

venu

e.

The

burd

en sh

ares

for d

omes

tic la

bor a

nd

land

ow

ners

wou

ld c

hang

e by

am

ount

s tha

t exa

ctly

off

set t

heir

shar

es o

f the

cor

pora

te in

com

e ta

x

burd

en. Th

at w

orld

wid

e ta

x on

dom

estic

cap

ital o

wne

rs a

chie

ves C

apita

l Exp

ort N

eutra

lity

(CEN

)

beca

use

it is

impo

sed

on th

e re

side

nts’

cap

ital i

ncom

e re

gard

less

of w

here

that

cap

ital i

s use

d in

prod

uctio

n. T

he U

.S. a

nd m

ost f

orei

gn c

orpo

rate

inco

me

taxe

s vio

late

CEN

bec

ause

they

are

effe

ctiv

ely

impo

sed

on th

e do

mes

tic u

se o

f cap

ital,

rega

rdle

ss o

f whe

re th

at c

apita

l is o

wne

d.26

Alth

ough

repl

acem

ent b

y th

e ta

x on

wor

ldw

ide

capi

tal i

ncom

e of

dom

estic

resi

dent

s wou

ld

impr

ove

wor

ldw

ide

effic

ienc

y in

the

allo

catio

n of

cap

ital,

the

wor

ldw

ide

effic

ienc

y ga

in e

qual

to

3.7

perc

ent o

f the

reve

nue

wou

ld b

e re

aliz

ed fu

lly a

s an

incr

ease

in th

e ag

greg

ate

dom

estic

natio

nal w

elfa

re.

Com

pare

d to

that

smal

l eff

icie

ncy

gain

, the

dom

estic

and

fore

ign

inco

me

redi

strib

utio

n ef

fect

s of s

witc

hing

to th

e ta

x th

at a

chie

ves C

EN w

ould

be

very

larg

e. O

n a

27 T

he d

iffer

entia

l inc

iden

ce o

f tha

t rep

lace

men

t tax

als

o m

easu

res t

he b

alan

ced-

budg

et in

cide

nce

of e

limin

atin

g th

eco

rpor

ate

tax

if th

e go

vern

men

t wer

e to

off

set t

he lo

ss o

f cor

pora

te ta

x re

venu

e by

redu

cing

its s

pend

ing

– its

dist

ribut

iona

lly n

eutra

l lum

p-su

m tr

ansf

ers.

-31-

wor

ldw

ide

basi

s, ho

wev

er, b

oth

labo

r and

cap

ital o

wne

rs w

ould

be

only

slig

htly

bet

ter o

ff.

Land

owne

rs w

ould

be

slig

htly

wor

se o

ff.

If th

e co

rpor

ate

tax

wer

e re

plac

ed b

y a

unifo

rm ta

x on

the

inco

me

or c

onsu

mpt

ion

of

dom

estic

resi

dent

s, do

mes

tic la

bor a

nd c

apita

l ow

ners

wou

ld b

oth

gain

slig

htly

and

land

owne

rs

wou

ld lo

se.27

Tho

se c

hang

es w

ould

be

smal

l bec

ause

the

dom

estic

bur

den

shar

es o

f the

corp

orat

e in

com

e ta

x ar

e ap

prox

imat

ely

equa

l to

the

dom

estic

resi

dent

s’ sh

ares

of i

ncom

e or

cons

umpt

ion,

and

hen

ce to

the

shar

es o

f bur

den

unde

r a p

erso

nal i

ncom

e or

con

sum

ptio

n ta

x. O

n

a w

orld

wid

e ba

sis,

such

a re

plac

emen

t tax

wou

ld c

ause

a su

bsta

ntia

l tra

nsfe

r of i

ncom

e fr

om

labo

r to

capi

tal o

wne

rs, a

lmos

t ent

irely

due

to it

s eff

ects

on

fore

ign

resi

dent

s.

Infin

itesi

mal

Cor

pora

te T

ax R

ate

The

tax

inci

denc

e is

not

aff

ecte

d m

uch

by a

ssum

ptio

ns a

bout

the

leve

l of t

he c

orpo

rate

tax

rate

and

the

size

of t

he in

put s

ubst

itutio

n el

astic

ity.

That

lack

of s

ensi

tivity

can

be

seen

by

anal

yzin

g th

e ef

fect

s of a

n in

finite

sim

al ta

x ra

te (T

able

4),

whi

ch w

ould

app

roxi

mat

e th

e ef

fect

s

of a

ver

y sm

all i

ncre

ase

in th

e co

rpor

ate

tax

rate

. T

he b

urde

n sh

ares

show

n in

Tab

le 4

are

alm

ost t

he sa

me

as th

e bu

rden

shar

es sh

own

in T

able

3.

The

mai

n di

ffer

ence

is th

at th

e ex

cess

burd

en d

isap

pear

s whe

n th

e ta

x ra

te is

ver

y sm

all.

In th

at se

nse,

Tab

le 4

show

s the

pur

e

inci

denc

e ef

fect

s of t

he c

orpo

rate

inco

me

tax.

-32-

Aggr

egat

e In

tern

atio

nal S

pillo

ver E

ffect

s

Und

er th

e as

sum

ptio

ns u

sed

so fa

r, th

e do

mes

tic c

orpo

rate

inco

me

tax

dist

orts

the

allo

catio

n of

cap

ital a

nd c

hang

es th

e do

mes

tic a

nd fo

reig

n in

trana

tiona

l dis

tribu

tions

of i

ncom

e.

But

the

tax

does

not

aff

ect t

he a

ggre

gate

inte

rnat

iona

l dis

tribu

tion

of in

com

es.

Not

eve

n th

e

exce

ss b

urde

n is

exp

orte

d in

the

aggr

egat

e, e

ven

thou

gh th

e ta

x ca

uses

cap

ital t

o be

allo

cate

d

inef

ficie

ntly

on

a w

orld

wid

e ba

sis.

The

tax

burd

en is

not

exp

orte

d or

impo

rted

in th

e ag

greg

ate

beca

use

the

initi

al d

omes

tic a

nd fo

reig

n pe

r cap

ita w

ealth

end

owm

ents

are

ass

umed

to b

e eq

ual,

and

beca

use

the

corp

orat

e ta

x ha

s no

tarif

f-lik

e ef

fect

s whe

n th

e fir

st tw

o se

ctor

s hav

e th

e sa

me

capi

tal i

nten

sitie

s.

The

corp

orat

e in

com

e ta

x ca

n, h

owev

er, a

ffec

t the

agg

rega

te in

tern

atio

nal d

istri

butio

n of

inco

me

unde

r alte

rnat

ive

assu

mpt

ions

, but

the

inte

rnat

iona

l tra

nsfe

r can

go

in e

ither

dire

ctio

n.

The

aggr

egat

e ta

x bu

rden

can

be

expo

rted

or im

porte

d, a

nd th

e ef

fect

on

the

fore

ign

dist

ribut

ion

of in

com

e ca

n be

mor

e or

less

inte

nsifi

ed.

The

sim

ples

t int

erna

tiona

l tra

nsfe

r can

aris

e w

hen

the

dom

estic

cou

ntry

is a

net

inte

rnat

iona

l len

der o

r net

inte

rnat

iona

l bor

row

er.

One

of t

hose

situ

atio

ns w

ould

aris

e w

hen

the

two

coun

tries

had

diff

eren

t ini

tial p

er c

apita

wea

lth e

ndow

men

ts.

Firs

t, su

ppos

e th

at th

e

dom

estic

cou

ntry

is a

net

inte

rnat

iona

l len

der.

Whi

le th

e do

mes

tic c

apita

l sto

ck e

qual

s 30

perc

ent o

f the

wor

ld c

apita

l sto

ck (t

he b

ase

case

), su

ppos

e th

at d

omes

tic re

side

nts o

wn

35 p

erce

nt

of w

orld

cap

ital.

Now

, the

cor

pora

te ta

x ha

s the

sam

e ef

fect

s on

prod

uctio

n an

d pr

ices

as i

n th

e

base

cas

e, b

ut d

omes

tic c

apita

l ow

ners

bea

r a la

rger

shar

e of

the

burd

en (T

able

5).

Com

pare

d to

the

base

cas

e, th

e do

mes

tic c

apita

l ow

ners

’ sha

re o

f the

bur

den

incr

ease

s and

the

fore

ign

capi

tal

owne

rs’ s

hare

falls

, eac

h by

slig

htly

mor

e th

an 5

per

cent

. Th

ose

chan

ges a

re sl

ight

ly g

reat

er th

an

-33-

5 pe

rcen

t bec

ause

, alth

ough

con

sum

er p

rices

fall

in e

ach

coun

try, d

omes

tic c

onsu

mer

pric

es fa

ll

by le

ss th

an fo

reig

n co

nsum

er p

rices

(Tab

le 2

). T

hat d

iffer

ence

bet

wee

n do

mes

tic a

nd fo

reig

n

cons

umer

pric

e ch

ange

s, co

mpa

red

to th

e ba

se c

ase,

als

o ca

uses

the

exce

ss b

urde

n of

the

tax

to

incr

ease

slig

htly

from

3.7

per

cent

to 4

.0 p

erce

nt o

f tax

reve

nue.

The

agg

rega

te d

omes

tic re

al

natio

nal i

ncom

e fa

lls b

y an

am

ount

equ

al to

9.1

per

cent

of t

he ta

x re

venu

e. C

ompa

red

to th

e

base

cas

e, th

e ag

greg

ate

dom

estic

exc

ess b

urde

n in

crea

ses f

rom

3.7

per

cent

to 9

.1 p

erce

nt o

f ta

x

reve

nue.

For

eign

real

nat

iona

l inc

ome

incr

ease

s by

5.2

perc

ent o

f the

reve

nue,

so fo

reig

n

resi

dent

s rec

eive

a n

et b

enef

it fr

om th

e ta

x.

Thus

, agg

rega

te fo

reig

n w

elfa

re is

impr

oved

by

the

dom

estic

cor

pora

te ta

x w

hen

the

dom

estic

cou

ntry

is a

net

inte

rnat

iona

l len

der.

Agg

rega

te d

omes

tic w

elfa

re fa

lls.

That

inte

rnat

iona

l tra

nsfe

r occ

urs b

ecau

se fo

reig

n la

bor a

nd la

ndow

ners

ben

efit

from

the

sam

e

incr

ease

d st

ock

of fo

reig

n ca

pita

l as w

hen

the

two

coun

tries

are

equ

ally

wea

lthy,

but

the

dom

estic

cap

ital o

wne

rs n

ow b

ear a

gre

ater

shar

e of

the

burd

en b

ecau

se th

ey o

wn

a la

rger

shar

e

of th

e w

orld

cap

ital s

tock

. Th

e fo

reig

n ca

pita

l ow

ners

bea

r a sm

alle

r sha

re o

f the

bur

den.

The

aggr

egat

e in

tern

atio

nal b

urde

n is

shift

ed in

the

oppo

site

dire

ctio

n if

the

dom

estic

coun

try is

a n

et in

tern

atio

nal b

orro

wer

. Su

ppos

e th

at th

e do

mes

tic re

side

nts o

wn

only

25

perc

ent

of th

e w

orld

cap

ital s

tock

. In

that

cas

e (T

able

5),

som

e of

the

dom

estic

tax

burd

en is

exp

orte

d

and

the

wor

ldw

ide

exce

ss b

urde

n is

slig

htly

low

er th

an in

the

base

cas

e, b

ecau

se fo

reig

n

cons

umer

pric

es a

re lo

wer

than

dom

estic

con

sum

er p

rices

in th

e ne

w e

quili

briu

m.

In su

mm

ary,

an

aggr

egat

e be

nefit

is e

xpor

ted

if th

e do

mes

tic c

ount

ry is

a n

et in

tern

atio

nal

lend

er.

An

aggr

egat

e bu

rden

is e

xpor

ted

if th

e do

mes

tic c

ount

ry is

a n

et in

tern

atio

nal b

orro

wer

.

28

Rec

all t

hat t

hose

sect

ors a

re th

e co

rpor

ate

sect

ors t

hat p

rodu

ce in

tern

atio

nally

trad

eabl

e ou

tput

s. T

he fo

reig

nan

d do

mes

tic o

utpu

ts o

f sec

tor o

ne a

re p

erfe

ct su

bstit

utes

and

the

fore

ign

and

dom

estic

out

puts

of s

ecto

r tw

o ar

eim

perf

ect s

ubst

itute

s.

-34-

The

dom

estic

cor

pora

te in

com

e ta

x ca

n al

so a

ffec

t the

inte

rnat

iona

l dis

tribu

tion

of in

com

e

if th

e ca

pita

l int

ensi

ties a

re n

ot e

qual

for p

rodu

ctio

n w

ithin

sect

ors o

ne a

nd tw

o.28

Tho

se

inte

rnat

iona

l spi

llove

r eff

ects

can

als

o go

eith

er w

ay d

epen

ding

on

whe

ther

sect

or tw

o is

mor

e or

less

cap

ital-i

nten

sive

than

sect

or o

ne.

How

ever

, the

eff

ects

of a

lterin

g th

e re

lativ

e ca

pita

l

inte

nsiti

es a

re m

ore

com

plic

ated

than

the

effe

cts o

f cha

ngin

g th

e sh

ares

of c

apita

l ow

ners

hip.

Thos

e co

mpl

icat

ions

aris

e be

caus

e bo

th n

atio

nal a

nd su

bnat

iona

l dis

tribu

tions

of t

he ta

x bu

rden

s

are

mod

ified

by

a ch

ange

in th

e as

sum

ptio

ns a

bout

rela

tive

capi

tal i

nten

sitie

s.

Firs

t, su

ppos

e th

at se

ctor

two

is m

ore

capi

tal-i

nten

sive

than

sect

or o

ne.

Supp

ose

that

capi

tal’s

initi

al sh

are

equa

ls 2

0 pe

rcen

t of t

he v

alue

add

ed in

sect

or tw

o, ra

ther

than

18

perc

ent

(as i

n Ta

ble

1, th

e ba

se c

ase)

. In

add

ition

, sup

pose

that

sect

or o

ne a

ccou

nts f

or 2

5 pe

rcen

t of t

he

valu

e ad

ded

by th

e fir

st tw

o se

ctor

s com

bine

d, a

nd th

at th

e se

ctor

one

cap

ital s

hare

is o

nly

12

perc

ent r

athe

r tha

n 18

per

cent

(as i

n Ta

ble

1, th

e ba

se c

ase)

. U

nder

thos

e as

sum

ptio

ns, t

he

aggr

egat

e ca

pita

l int

ensi

ty a

nd o

utpu

t sha

res o

f sec

tors

one

and

two

com

bine

d ar

e th

e sa

me

as in

the

base

cas

e. A

ll ot

her s

hare

s are

als

o un

chan

ged.

Und

er th

ose

alte

rnat

ive

assu

mpt

ions

, dom

estic

labo

r bea

rs a

smal

ler s

hare

of t

he b

urde

n

(Tab

le 5

) tha

n in

the

base

cas

e. D

omes

tic la

bor b

ears

59

perc

ent r

athe

r tha

n73.

7 pe

rcen

t of t

he

burd

en.

Dom

estic

labo

r’s s

hare

of t

he b

urde

n is

smal

ler b

ecau

se th

e do

mes

tic w

age

rate

falls

by

less

than

in th

e ba

se c

ase

and

the

rate

of r

etur

n pa

id to

cap

ital o

wne

rs fa

lls b

y sl

ight

ly m

ore

than

in th

e ba

se c

ase

(Tab

le 6

). T

he d

omes

tic w

age

rate

falls

by

less

mos

tly b

ecau

se se

ctor

one

prod

uctio

n is

mor

e la

bor-

inte

nsiv

e th

an it

is in

the

base

cas

e. A

s des

crib

ed b

y Eq

uatio

n (2

a),

whe

n se

ctor

one

is m

ore

labo

r-in

tens

ive,

the

wag

e ra

te d

oes n

ot h

ave

to fa

ll by

as m

uch

to fu

lly

29 T

he im

porta

nce

of la

bor i

nten

sity

in se

ctor

one

is sh

own

by e

quat

ion

(4) a

nd is

exp

lain

ed in

the

disc

ussi

on th

atfo

llow

s tha

t equ

atio

n.

-35-

offs

et th

e in

crea

sed

cost

of c

apita

l in

that

sect

or.

In a

dditi

on, t

he d

omes

tic c

orpo

rate

cos

t of

capi

tal i

ncre

ases

by

slig

htly

less

than

in th

e ba

se c

ase

beca

use

sect

or o

ne is

now

mor

e la

bor-

inte

nsiv

e.29

Als

o un

der t

hose

alte

rnat

ive

assu

mpt

ions

, com

pare

d w

ith th

e ba

se c

ase,

dom

estic

ow

ners

of c

apita

l bea

r a la

rger

shar

e of

the

burd

en im

pose

d on

wor

ldw

ide

capi

tal o

wne

rs (T

able

5)

beca

use

the

dom

estic

ow

ners

of c

apita

l mus

t pay

hig

her c

onsu

mer

pric

es th

an b

efor

e, w

here

as

fore

ign

capi

tal o

wne

rs p

ay sl

ight

ly le

ss fo

r con

sum

er g

oods

than

in th

e ba

se c

ase.

Dom

estic

cons

umer

pric

es n

ow ri

se b

y 0.

11 p

erce

nt ra

ther

than

falli

ng b

y 0.

11 p

erce

nt, a

s in

the

base

cas

e

(Tab

le 6

). In

con

trast

, for

eign

con

sum

er p

rices

dec

line

by sl

ight

ly m

ore

(-0.

18 p

erce

nt) t

han

in

the

base

cas

e (-

0.16

per

cent

).

Ove

rall,

whe

n se

ctor

two

is m

ore

capi

tal-i

nten

sive

than

sect

or o

ne, s

ome

of th

e ag

greg

ate

burd

en o

f the

tax

is e

xpor

ted

(Tab

le 5

). F

orei

gn re

side

nts b

ear a

n ag

greg

ate

burd

en e

qual

to 8

.7

perc

ent o

f the

reve

nue.

Dom

estic

resi

dent

s bea

r an

aggr

egat

e bu

rden

equ

al to

just

94.

9 pe

rcen

t of

the

reve

nue.

The

eff

ect t

hat t

he d

omes

tic c

orpo

rate

tax

has o

n th

e fo

reig

n su

bnat

iona

l

dist

ribut

ion

of in

com

e is

als

o le

ss p

rono

unce

d th

an in

the

base

cas

e.

Alte

rnat

ivel

y, w

hen

sect

or tw

o is

less

cap

ital-i

nten

sive

than

sect

or o

ne, t

he a

ggre

gate

inte

rnat

iona

l eff

ect i

s rev

erse

d (T

able

5).

Dom

estic

labo

r bea

rs a

larg

er sh

are

of th

e bu

rden

(90.

6

perc

ent)

and

fore

ign

labo

r rec

eive

s a la

rger

ben

efit

(87.

8 pe

rcen

t) th

an in

the

base

cas

e.

Com

pare

d to

the

base

cas

e, th

e do

mes

tic c

apita

l ow

ner’

s bur

den

is sm

alle

r (26

.7 p

erce

nt) a

nd

fore

ign

capi

tal o

wne

r’s b

urde

n is

larg

er (7

8.2

perc

ent).

Ove

rall,

dom

estic

resi

dent

s bea

r 113

.9

perc

ent o

f the

dom

estic

cor

pora

te ta

x. F

orei

gn re

side

nts b

enef

it by

10.

1 pe

rcen

t of t

he re

venu

e.

30 M

elvi

n (1

982)

dis

cuss

es th

e ta

riff-

like

effe

cts o

f the

cor

pora

te in

com

e ta

x in

a m

uch

sim

pler

two-

sect

or tr

ade

mod

el w

ith n

o in

tern

atio

nal c

apita

l mob

ility

. Th

at si

mpl

er m

odel

mak

es it

eas

ier t

o un

ders

tand

the

sim

ilarit

y to

the

effe

cts o

f a ta

riff.

-36-

The

effe

ct o

f the

cor

pora

te ta

x on

the

inte

rnat

iona

l dis

tribu

tion

of in

com

es c

an b

e

unde

rsto

od, i

n pa

rt, b

y co

mpa

ring

it to

the

effe

ct o

f a d

omes

tic e

xpor

t tax

or s

ubsi

dy p

lace

d on

the

dom

estic

out

put o

f sec

tor t

wo.

Whe

n se

ctor

two

is m

ore

capi

tal-i

nten

sive

than

sect

or o

ne, t

he

corp

orat

e ta

x in

crea

ses t

he d

omes

tic p

rice

of o

utpu

t fro

m th

at se

ctor

and

dec

reas

es th

e pr

ice

of

outp

ut fr

om th

e co

rres

pond

ing

fore

ign

sect

or.

That

impr

ovem

ent i

n th

e in

tern

atio

nal t

erm

s of

trade

cre

ates

a b

enef

it fo

r the

dom

estic

resi

dent

s at t

he e

xpen

se o

f for

eign

resi

dent

s. In

that

way

,

it ha

s an

effe

ct th

at is

sim

ilar t

o an

ad

valo

rem

tarif

f pla

ced

on th

e do

mes

tic e

xpor

ts fr

om th

at

sect

or.

Whe

n se

ctor

two

is le

ss c

apita

l-int

ensi

ve th

an se

ctor

one

, the

eff

ect i

s rev

erse

d. T

he

inte

rnat

iona

l ter

ms o

f tra

de a

re w

orse

ned

for d

omes

tic re

side

nts.

For

eign

resi

dent

s are

mad

e

bette

r off

at t

he e

xpen

se o

f dom

estic

resi

dent

s, si

mila

rly to

the

effe

ct o

f an

dom

estic

exp

ort

subs

idy

for t

he o

utpu

t of s

ecto

r tw

o. T

he si

mila

rity

to e

ither

an

expo

rt ta

riff o

r an

expo

rt su

bsid

y

is li

mite

d, h

owev

er, b

ecau

se th

e co

rpor

ate

tax

also

aff

ects

the

allo

catio

n of

cap

ital a

nd o

f inp

ut

and

outp

ut p

rices

in m

any

othe

r way

s tha

t diff

er fr

om th

e ef

fect

s of a

n ex

port

tax

or su

bsid

y.30

Rela

tive

Size

of t

he D

omes

tic E

cono

my

A c

hang

e in

the

assu

mpt

ion

abou

t the

size

of t

he d

omes

tic e

cono

my

rela

tive

to th

e w

orld

econ

omy

affe

cts b

oth

the

inci

denc

e an

d ef

ficie

ncy

of a

dom

estic

cor

pora

te ta

x. T

o ex

plor

e th

ose

effe

cts,

the

tax

burd

en sh

ares

can

be

mea

sure

d on

eith

er a

n ag

greg

ate

basi

s or a

per

cap

ita b

asis

.

Agg

rega

te b

urde

ns m

easu

re th

e to

tal e

ffec

ts o

f the

tax

on d

omes

tic a

nd fo

reig

n re

side

nts,

expr

esse

d as

shar

es o

f tot

al d

omes

tic re

venu

e. P

er c

apita

bur

dens

are

exp

ress

ed, i

nste

ad, a

s per

capi

ta sh

ares

of t

he d

omes

tic p

er c

apita

reve

nue.

Dom

estic

bur

den

shar

es h

ave

the

sam

e va

lues

31 C

ompu

tatio

ns fo

r Tab

les 7

and

8 u

se th

e sa

me

assu

mpt

ions

as t

he b

ase

case

for t

he U

nite

d St

ates

. It

is a

ssum

edth

at th

e po

pula

tions

are

pro

porti

onal

to th

e si

zes o

f the

eco

nom

ies.

32

Dom

estic

cap

ital o

wne

rs b

ear a

slig

htly

hig

her b

urde

n th

an fo

reig

n ca

pita

l ow

ners

, bec

ause

dom

estic

con

sum

erpr

ices

incr

ease

by

mor

e th

an fo

reig

n co

nsum

er p

rices

.

-37-

eith

er w

ay, b

ut fo

reig

n pe

r cap

ita sh

ares

acc

ount

for t

he fa

ct th

at w

hen

dom

estic

out

put i

s a

smal

ler s

hare

of w

orld

out

put,

the

dom

estic

reve

nue

is sm

alle

r and

the

fore

ign

burd

en is

div

ided

amon

g a

larg

er n

umbe

r of f

orei

gn in

divi

dual

s. F

or e

xam

ple,

whe

n th

e do

mes

tic e

cono

my

is o

nly

1 pe

rcen

t of t

he w

orld

eco

nom

y, fo

reig

n la

bor’

s tot

al b

enef

it is

abo

ut th

e sa

me

as d

omes

tic

labo

r’s t

otal

loss

(Tab

le 7

), bu

t for

eign

labo

r’s p

er c

apita

gai

n is

less

than

1 p

erce

nt o

f dom

estic

labo

r’s p

er c

apita

loss

(Tab

le 8

).31 C

hang

es in

a v

ery

smal

l cou

ntry

can

not h

ave

muc

h of

an

effe

ct o

n ea

ch p

erso

n in

the

rest

of t

he w

orld

.

Dom

estic

labo

r bea

rs m

ore

than

100

per

cent

of t

he b

urde

n w

hen

the

dom

estic

eco

nom

y

prod

uces

less

than

5 p

erce

nt o

f wor

ld o

utpu

t (Ta

ble

8).

For s

uch

a sm

all e

cono

my,

bot

h do

mes

tic

labo

r and

dom

estic

cap

ital o

wne

rs w

ould

be

bette

r off

und

er a

dom

estic

tax

on w

ages

. W

heth

er

that

smal

l cou

ntry

cho

oses

to im

pose

a c

orpo

rate

inco

me

tax

has o

nly

a sm

all e

ffec

t on

fore

ign

indi

vidu

als.

Whe

n bu

rden

is m

easu

red

on a

per

cap

ita b

asis

, the

shar

es b

orne

by

dom

estic

and

fore

ign

labo

r and

cap

ital c

orre

late

clo

sely

with

the

rela

tive

size

of t

he d

omes

tic e

cono

my

(Tab

le 8

). T

he

per c

apita

bur

dens

impo

sed

on in

divi

dual

cap

ital o

wne

rs, d

omes

tic o

r for

eign

, are

roug

hly

equa

l

to th

e do

mes

tic e

cono

my’

s sha

re o

f wor

ld o

utpu

t.32 D

omes

tic la

bor’

s per

cap

ita sh

are

of th

e

burd

en is

slig

htly

hig

her t

han

the

fore

ign

econ

omy’

s sha

re o

f wor

ld o

utpu

t. F

orei

gn la

bor’

s per

capi

ta sh

are

of th

e bu

rden

is sl

ight

ly a

bove

the

dom

estic

eco

nom

y’s s

hare

of w

orld

out

put.

The

exce

ss b

urde

n, m

easu

red

as a

shar

e of

reve

nue,

is la

rges

t whe

n th

e do

mes

tic

econ

omy

is sm

alle

st.

That

exc

ess a

rises

bec

ause

the

corp

orat

e ta

x ca

uses

cap

ital t

o be

allo

cate

d

33 S

ee C

oakl

ey, K

ulas

i, an

d Sm

ith (1

998)

and

Coa

kley

, Fue

rtes,

and

Spag

nolo

(200

4).

34 S

ee O

bstfe

ld a

nd R

ogof

f (19

96),

pp. 1

61-1

64.

-38-

inef

ficie

ntly

aw

ay fr

om th

e do

mes

tic c

orpo

rate

sect

or a

nd o

ut o

f the

dom

estic

eco

nom

y. B

oth

sour

ces o

f ine

ffic

ienc

y be

com

e sm

alle

r rel

ativ

e to

dom

estic

reve

nue

as th

e do

mes

tic e

cono

my

is

assu

med

to b

e re

lativ

ely

larg

er (n

ot sh

own

in T

able

8).

In th

e lim

it, w

hen

the

dom

estic

eco

nom

y

is th

e w

hole

wor

ld, o

nly

the

dom

estic

mis

allo

catio

n of

cap

ital r

emai

ns.

The

exce

ss b

urde

n eq

uals

4.8

perc

ent o

f rev

enue

whe

n th

e do

mes

tic e

cono

my

is o

nly

1 pe

rcen

t of t

he w

orld

, but

onl

y 1.

2

perc

ent o

f rev

enue

whe

n th

e do

mes

tic e

cono

my

is th

e w

hole

wor

ld.

Of c

ours

e, 1

.2 p

erce

nt o

f

reve

nue

colle

cted

if e

very

cou

ntry

impo

sed

the

sam

e co

rpor

ate

tax

wou

ld b

e m

uch

larg

er th

an 4

.8

perc

ent o

f rev

enue

col

lect

ed b

y a

coun

try th

at m

akes

up

only

1 p

erce

nt o

f the

wor

ld e

cono

my.

Cap

ital M

obili

ty

Thro

ugho

ut th

is st

udy,

cap

ital i

s ass

umed

to b

e pe

rfec

tly m

obile

in th

e se

nse

that

the

mar

gina

l ret

urn

to in

vest

men

t, ex

clud

ing

prod

ucer

-leve

l tax

es, i

s the

sam

e th

roug

hout

the

wor

ld.

The

ques

tion

abou

t the

true

deg

ree

of in

tern

atio

nal c

apita

l mob

ility

is u

nres

olve

d, e

spec

ially

sinc

e th

e w

ork

of F

elds

tein

and

Hor

ioka

(198

0), w

ho d

isco

vere

d a

high

and

ver

y ro

bust

corr

elat

ion

betw

een

natio

nal i

nves

tmen

t and

nat

iona

l sav

ings

, whi

ch su

gges

ted

that

cap

ital w

as

not v

ery

mob

ile.

How

ever

, mor

e re

cent

wor

k su

gges

ts th

at th

e Fe

ldst

ein-

Hor

ioka

resu

lt is

not

as

robu

st a

s onc

e be

lieve

d.33

Mor

eove

r, it

is n

ot c

lear

exa

ctly

wha

t the

Fel

dste

in a

nd H

orio

ka

impl

ies a

bout

the

degr

ee o

f cap

ital m

obili

ty.34

How

ever

, giv

en th

at a

sign

ifica

nt le

vel o

f

unce

rtain

ty a

nd d

isag

reem

ent a

mon

g ec

onom

ists

rem

ains

, it i

s im

porta

nt to

con

side

r the

pos

sibl

e

impl

icat

ions

of i

mpe

rfec

t int

erna

tiona

l cap

ital m

obili

ty.

35 I

n th

e lim

it, d

omes

tic c

apita

l ow

ners

bea

r the

full

burd

en o

f the

cor

pora

te ta

x w

hen

the

dom

estic

eco

nom

y is

the

entir

e w

orld

, the

tax

rate

is in

finite

sim

ally

smal

l (no

exc

ess b

urde

n), a

nd th

e ga

in to

land

is d

istri

bute

d to

labo

r and

capi

tal o

wne

rs in

pro

porti

on to

thei

r ini

tial i

ncom

e sh

ares

. Th

at re

sult

coin

cide

s with

the

cent

ral c

ase

in H

arbe

rger

(196

2) fo

r the

clo

sed

econ

omy.

-39-

It is

pos

sibl

e, a

s in

Mut

ti an

d G

rube

rt (1

985)

and

Gra

velle

and

Sm

ette

rs (2

006)

, to

mod

el

inte

rnat

iona

l cap

ital m

obili

ty b

y as

sum

ing

that

indi

vidu

al in

vest

ors d

o no

t sub

stitu

te p

erfe

ctly

betw

een

fore

ign

and

dom

estic

inve

stm

ents

. H

owev

er, t

hat s

trate

gy c

ompl

icat

es th

e an

alys

is

cons

ider

ably

and

is n

ot n

eces

saril

y th

e be

st w

ay to

cha

ract

eriz

e th

e be

havi

or o

f the

mar

gina

l

inve

stor

in a

long

-run

equ

ilibr

ium

. A

n al

tern

ativ

e an

d m

uch

sim

pler

app

roac

h to

cha

ngin

g th

e

degr

ee o

f cap

ital m

obili

ty is

to im

agin

e th

at th

e re

st o

f the

wor

ld is

smal

ler,

in w

hich

cas

e th

ere

wou

ld b

e fe

wer

opp

ortu

nitie

s for

cap

ital t

o be

real

loca

ted

abro

ad.

In th

at c

ase,

any

inte

rnat

iona

l

real

loca

tion

of c

apita

l aw

ay fr

om th

e do

mes

tic e

cono

my

driv

es d

own

the

mar

gina

l ret

urn

to

inve

stm

ent a

t a h

ighe

r rat

e pe

r uni

t of r

eallo

cate

d ca

pita

l. T

hat p

heno

men

on c

ause

s les

s cap

ital

to b

e re

allo

cate

d ab

road

in re

spon

se to

the

dom

estic

cor

pora

te ta

x, in

a w

ay th

at is

sim

ilar t

o th

e

effe

ct o

f ass

umin

g th

at d

omes

tic a

nd fo

reig

n in

vest

men

ts a

re n

ot p

erfe

ct su

bstit

utes

for i

nves

tors

.

In e

ffec

t, th

e m

argi

nal i

nves

tor i

s stil

l ass

umed

to b

e in

diff

eren

t bet

wee

n do

mes

tic a

nd fo

reig

n

inve

stm

ents

that

pay

the

sam

e ra

te o

f ret

urn,

but

onl

y fo

r inv

estm

ents

in so

me

of th

e co

untri

es –

perh

aps b

etw

een

the

high

ly in

dust

rializ

ed c

ount

ries.

For

oth

er c

ount

ries,

they

are

com

plet

ely

unw

illin

g to

subs

titut

e be

twee

n do

mes

tic a

nd fo

reig

n in

vest

men

ts a

t any

rela

tive

rate

s of r

etur

n.

As c

apita

l mob

ility

is re

duce

d in

that

way

, dom

estic

labo

r’s s

hare

of t

he c

orpo

rate

bur

den

beco

mes

smal

ler a

nd d

omes

tic c

apita

l’s sh

are

of th

e bu

rden

bec

omes

larg

er.

For e

xam

ple,

whe

n

the

dom

estic

eco

nom

y is

incr

ease

d fr

om 3

0 pe

rcen

t of t

he w

orld

eco

nom

y to

70

perc

ent o

f the

wor

ld e

cono

my,

dom

estic

labo

r’s s

hare

falls

from

73.

7 pe

rcen

t to

32.5

per

cent

(Tab

le 8

).

Dom

estic

cap

ital’s

shar

e of

the

burd

en in

crea

ses f

rom

32.

5 pe

rcen

t to

72.7

per

cent

.35 B

ecau

se

36 S

ee C

ongr

essi

onal

Bud

get O

ffic

e (2

005a

) and

Dev

ereu

x, G

riffit

h, a

nd K

lem

m (2

002)

.

-40-

capi

tal i

s les

s mob

ile w

hen

the

dom

estic

eco

nom

y pr

ovid

es 7

0 pe

rcen

t of t

he w

orld

’s in

vest

men

t

oppo

rtuni

ties t

o do

mes

tic c

apita

l ow

ners

, the

arc

ela

stic

ity o

f the

dom

estic

cap

ital s

tock

with

resp

ect t

o th

e co

rpor

ate

tax

falls

from

-0.3

2 to

-0.1

3.

The

degr

ee o

f lon

g-ru

n in

tern

atio

nal c

apita

l mob

ility

is st

ill a

n un

reso

lved

que

stio

n.

Cle

arly

, the

ans

wer

to th

at q

uest

ion

is c

ruci

al fo

r und

erst

andi

ng th

e lo

ng-r

un in

cide

nce

of th

e

corp

orat

e in

com

e ta

x in

an

open

eco

nom

y.

Tax

Com

petit

ion

Alth

ough

man

y co

untri

es im

pose

cor

pora

te in

com

e ta

xes,

the

corp

orat

e ta

x ra

tes h

ave

decr

ease

d ov

er th

e pa

st 2

5 ye

ars.36

Cou

ntry

com

petit

ion

caus

ed b

y in

tern

atio

nal s

pillo

ver e

ffec

ts

mig

ht h

elp

expl

ain

why

cou

ntrie

s hav

e di

ffer

ent c

orpo

rate

tax

rate

s, bu

t it i

s not

cle

ar h

ow th

ose

spill

over

s wou

ld e

xpla

in th

e ob

serv

ed d

ownw

ard

trend

in c

orpo

rate

tax

rate

s.

The

poss

ibili

ty o

f tar

iff-li

ke c

ompe

titio

n se

ems t

o le

ad in

the

wro

ng d

irect

ion.

If t

he

corp

orat

e in

com

e ta

x ha

s tar

iff-li

ke e

ffec

ts th

at a

llow

cou

ntrie

s to

expo

rt so

me

of th

eir c

orpo

rate

tax

burd

ens,

the

corp

orat

e ta

x ca

n se

rve

as a

subs

titut

e fo

r tar

iff c

ompe

titio

n w

hen

tarif

fs a

re

limite

d by

inte

rnat

iona

l tra

de a

gree

men

ts.

But

tarif

f com

petit

ion

is u

nlik

ely

to e

xpla

in th

e

obse

rved

dow

nwar

d tre

nds i

n co

rpor

ate

tax

rate

s. T

o th

e ex

tent

that

the

corp

orat

e in

com

e ta

x

acts

as a

tarif

f sub

stitu

te, t

ariff

com

petit

ion

wou

ld m

otiv

ate

coun

tries

to in

crea

se th

eir c

orpo

rate

tax

rate

s as t

rade

agr

eem

ents

bec

ome

mor

e bi

ndin

g.

Spill

over

s tha

t res

ult f

rom

a c

ount

ry’s

net

inte

rnat

iona

l cap

ital p

ositi

on a

lso

do n

ot

obvi

ousl

y ex

plai

n th

e do

wnw

ard

trend

in c

orpo

rate

tax

rate

s. O

n an

agg

rega

te b

asis

, res

iden

ts o

f

37 S

ee C

ongr

essi

onal

Bud

get O

ffic

e (2

005a

).

-41-

a co

untry

that

is a

net

inte

rnat

iona

l len

der w

ould

ben

efit

from

a re

duct

ion

in th

eir d

omes

tic

corp

orat

e ta

x ra

te (T

able

5).

By

that

sam

e ag

greg

ate

mea

sure

, how

ever

, res

iden

ts o

f a c

ount

ry

that

is a

net

inte

rnat

iona

l bor

row

er w

ould

ben

efit

from

an

incr

ease

in th

eir o

wn

corp

orat

e ta

x

rate

. C

ount

ries t

hat h

ave

grad

ually

redu

ced

thei

r cor

pora

te ta

x ra

tes i

nclu

de b

oth

net

inte

rnat

iona

l len

ders

and

net

inte

rnat

iona

l bor

row

ers,

so th

ose

spill

over

s pro

babl

y do

not

exp

lain

the

dow

nwar

d tre

nds.

Inte

rnat

iona

l spi

llove

rs th

at a

ffec

t the

subn

atio

nal d

istri

butio

ns o

f inc

ome

mig

ht e

xpla

in

part

of th

e ob

serv

ed tr

end,

but

eve

n th

e ro

le o

f tho

se sp

illov

ers i

s not

obv

ious

. If

, for

som

e

reas

on, o

ther

cou

ntrie

s red

uce

thei

r cor

pora

te ta

x ra

tes f

irst,

then

a c

ount

ry m

ight

redu

ce it

s ow

n

corp

orat

e ta

x ra

te to

pro

tect

its d

omes

tic w

orke

rs fr

om th

e po

tent

ial o

utflo

w o

f cap

ital.

How

ever

,

if th

at is

a c

ount

ry’s

mot

ivat

ion

for r

educ

ing

its c

orpo

rate

tax

rate

, the

n it

is n

ot c

lear

why

the

coun

try w

ould

wai

t for

oth

er c

ount

ries t

o re

duce

thei

r tax

es fi

rst.

Eve

n if

all c

ount

ries i

mpo

se a

corp

orat

e in

com

e ta

x, a

ny o

ne c

ount

ry c

ould

impr

ove

the

wel

fare

of i

ts d

omes

tic w

orke

rs b

y

redu

cing

its c

orpo

rate

tax.

Inst

ead

of ta

x co

mpe

titio

n, it

is p

ossi

ble

that

inte

rnat

iona

l cap

ital m

obili

ty h

as in

crea

sed

over

the

last

25

or 3

0 ye

ars,

and

that

cou

ntrie

s hav

e re

duce

d th

eir c

orpo

rate

tax

rate

s in

resp

onse

to th

at c

omm

on tr

end.

With

out c

apita

l mob

ility

, the

cor

pora

te in

com

e ta

x is

mor

e lik

ely

to b

e

born

e by

the

dom

estic

ow

ners

of c

apita

l. W

hen

capi

tal i

s mob

ile, a

cor

pora

te in

com

e ta

x is

bor

ne

mor

e he

avily

by

dom

estic

labo

r, es

peci

ally

for a

tax

impo

sed

by th

e sm

alle

st c

ount

ries.

Som

e of

thos

e sm

alle

st c

ount

ries h

ave

redu

ced

thei

r cor

pora

te ta

xes b

y th

e m

ost o

ver t

he p

ast 2

5 ye

ars.37

-42-

Perh

aps,

out o

f con

cern

for t

heir

dom

estic

labo

r, co

untri

es h

ave

resp

onde

d to

the

chan

ging

dist

ribut

iona

l con

sequ

ence

s of c

orpo

rate

tax

as c

apita

l mob

ility

has

incr

ease

d.

Alth

ough

the

mod

el d

oes n

ot e

xpla

in th

e ob

serv

ed tr

ends

in a

ny o

bvio

us m

anne

r, th

e

mod

el c

an b

e us

ed to

exp

lore

how

thos

e tre

nds m

ight

aff

ect t

he d

istri

butio

n of

tax

burd

ens.

The

pote

ntia

l eff

ects

can

be

obse

rved

bas

ed o

n th

e re

latio

n be

twee

n co

untry

size

and

the

per c

apita

burd

en sh

ares

(Tab

le 8

). T

o si

mpl

ify th

e an

alys

is, r

athe

r tha

n try

ing

to a

naly

ze g

radu

al c

hang

es

in c

orpo

rate

tax

rate

s, su

ppos

e th

at 9

0 pe

rcen

t of t

he w

orld

out

put i

s pro

duce

d in

cou

ntrie

s tha

t

impo

se a

cor

pora

te in

com

e ta

x, a

nd th

at re

al ta

x ha

vens

pro

duce

the

othe

r 10

perc

ent.

Initi

ally

,

on a

n av

erag

e pe

r cap

ita b

asis

, wor

kers

in th

e co

untri

es th

at a

re n

ot ta

x ha

vens

bea

r onl

y 12

.3

perc

ent o

f the

cor

pora

te ta

x bu

rden

com

pare

d to

an

equi

libriu

m in

whi

ch n

one

of th

ose

coun

tries

impo

ses a

cor

pora

te in

com

e ta

x. W

orke

rs in

the

tax-

have

n co

untri

es re

ceiv

e an

ave

rage

per

capi

ta b

enef

it eq

ual t

o 89

.7 p

erce

nt o

f the

per

cap

ita re

venu

e.

Alth

ough

the

aver

age

labo

r sha

re o

f the

bur

den

is sm

all i

n th

e co

untri

es th

at a

re n

ot ta

x

have

ns, t

hat b

urde

n ca

n be

muc

h la

rger

whe

n it

is m

easu

red

at th

e m

argi

n fo

r a c

ount

ry d

ecid

ing

whe

ther

to im

pose

a c

orpo

rate

inco

me

tax.

Fo

r a sm

all c

ount

ry th

at is

not

a ta

x ha

ven,

dom

estic

labo

r’s b

enef

it fr

om e

limin

atin

g its

ow

n co

rpor

ate

tax

wou

ld e

qual

102

per

cent

of i

ts d

omes

tic

reve

nue

from

the

tax:

the

diff

eren

ce b

etw

een

the

aver

age

burd

en o

f 12.

3 pe

rcen

t with

in th

e

coun

tries

that

are

not

tax

have

ns a

nd th

e av

erag

e pe

r cap

ita b

enef

it of

89.

7 pe

rcen

t with

in th

e ta

x-

have

n co

untri

es.

From

a d

istri

butio

nal p

ersp

ectiv

e, it

mak

es li

ttle

diff

eren

ce w

heth

er th

at sm

all

coun

try is

the

only

cou

ntry

to h

ave

a co

rpor

ate

inco

me

tax

or is

just

one

am

ong

man

y co

untri

es

that

tax

corp

orat

e in

com

e, a

s lon

g as

cou

ntrie

s can

cho

ose

thei

r tax

pol

icie

s ind

epen

dent

ly.

That

is a

lso

true

for l

arge

r cou

ntrie

s. F

or e

xam

ple,

in a

cou

ntry

that

is n

ot a

tax

have

n an

d th

at

-43-

prod

uces

20

perc

ent o

f wor

ld o

utpu

t, do

mes

tic la

bor’

s bur

den

at th

e m

argi

n w

ould

equ

al 8

2.6

perc

ent (

12.3

per

cent

+70

.3 p

erce

nt) o

f the

dom

estic

cor

pora

te ta

x re

venu

e.

If c

ount

ries m

ove

into

the

tax-

have

n gr

oup,

labo

r’s a

vera

ge p

er c

apita

ben

efit

falls

for

resi

dent

s of t

he ta

x-ha

ven

coun

tries

and

rise

s for

resi

dent

s of t

he o

ther

cou

ntrie

s. F

or e

xam

ple,

whe

n th

e ta

x-ha

ven

grou

p gr

ows f

rom

10

perc

ent t

o 30

per

cent

of w

orld

pro

duct

ion,

labo

r’s

aver

age

per c

apita

ben

efit

falls

from

89.

7 pe

rcen

t to

70.3

per

cent

for r

esid

ents

of t

he ta

x ha

vens

.

Labo

r’s a

vera

ge p

er c

apita

bur

den

rises

from

12.

3 pe

rcen

t to

32.5

per

cent

for r

esid

ents

of t

he

coun

tries

that

are

not

tax

have

ns.

Alth

ough

the

mod

el d

oes n

ot o

bvio

usly

pro

vide

a th

eory

of t

ax c

ompe

titio

n th

at w

ould

expl

ain

the

obse

rved

tren

ds in

cor

pora

te ta

x ra

tes o

ver t

he p

ast 2

5 or

30

year

s, th

e an

alys

is d

oes

sugg

est t

hat t

hose

tren

ds c

an sh

ift th

e bu

rden

s of t

he c

orpo

rate

inco

me

tax

in a

n op

en e

cono

my.

Such

shift

s mig

ht h

elp

expl

ain

coun

try m

otiv

atio

ns th

at u

nder

lie th

e ob

serv

ed in

tern

atio

nal t

rend

s

in c

orpo

rate

tax

polic

ies.

VII

I.C

oncl

usio

ns

The

anal

ysis

show

s how

the

dom

estic

ow

ners

of c

apita

l can

esc

ape

mos

t of t

he c

orpo

rate

inco

me

tax

burd

en w

hen

capi

tal i

s rea

lloca

ted

abro

ad in

resp

onse

to th

e ta

x. B

ut, a

s in

Bra

dfor

d

(197

8), c

apita

l ow

ners

wor

ldw

ide

do n

ot e

scap

e th

e ta

x. R

eallo

catio

n of

cap

ital a

broa

d dr

ives

dow

n th

e pe

rson

al re

turn

to in

vest

men

t so

that

cap

ital o

wne

rs w

orld

wid

e be

ar a

ppro

xim

atel

y th

e

full

burd

en o

f the

dom

estic

cor

pora

te in

com

e ta

x. F

orei

gn w

orke

rs b

enef

it be

caus

e an

incr

ease

d

fore

ign

stoc

k of

cap

ital r

aise

s the

ir pr

oduc

tivity

and

thei

r wag

es.

Dom

estic

wor

kers

lose

bec

ause

thei

r pro

duct

ivity

falls

and

they

can

not e

mig

rate

to ta

ke a

dvan

tage

of h

ighe

r for

eign

wag

es.

-44-

Und

er b

asic

ass

umpt

ions

of t

he n

umer

ical

app

licat

ion,

the

outc

ome

is a

lso

sim

ilar t

o th

e

impl

icat

ions

of t

he si

mpl

er m

odel

of B

radf

ord

in th

e se

nse

that

the

full

wor

ldw

ide

burd

en fa

lls o

n

dom

estic

ow

ners

of p

rodu

ctiv

e in

puts

.

Bur

dens

are

mea

sure

d by

subs

titut

ing

fact

or sh

ares

and

out

put s

hare

s tha

t are

reas

onab

le

for t

he U

.S. e

cono

my.

Giv

en th

ose

valu

es, w

hen

capi

tal i

s per

fect

ly m

obile

and

the

tax

does

not

affe

ct th

e w

orld

pric

es o

f tra

ded

good

s, do

mes

tic la

bor b

ears

slig

htly

mor

e th

an 7

0 pe

rcen

t of t

he

long

run

burd

en o

f the

cor

pora

te in

com

e ta

x. T

he d

omes

tic o

wne

rs o

f cap

ital b

ear s

light

ly m

ore

than

30

perc

ent o

f the

bur

den.

Dom

estic

land

owne

rs re

ceiv

e a

smal

l ben

efit.

At t

he sa

me

time,

the

fore

ign

owne

rs o

f cap

ital b

ear s

light

ly m

ore

than

70

perc

ent o

f the

bur

den,

but

thei

r bur

den

is

exac

tly o

ffse

t by

the

bene

fits r

ecei

ved

by fo

reig

n w

orke

rs a

nd la

ndow

ners

. W

hen

capi

tal i

s les

s

mob

ile in

tern

atio

nally

, dom

estic

labo

r’s b

urde

n is

low

er a

nd d

omes

tic c

apita

l’s b

urde

n is

hig

her.

Bur

dens

can

als

o be

aff

ecte

d by

the

dom

estic

cou

ntry

’s a

bilit

y to

influ

ence

the

wor

ld p

rices

of

som

e tra

ded

corp

orat

e ou

tput

s, bu

t the

sign

s and

mag

nitu

des o

f tho

se c

hang

es d

epen

d up

on th

e

rela

tive

capi

tal i

nten

sitie

s of p

rodu

ctio

n in

the

corp

orat

e se

ctor

s tha

t pro

duce

inte

rnat

iona

lly

trada

ble

good

s.

That

dis

tribu

tion

of b

urde

ns is

qui

te d

iffer

ent f

rom

the

pred

ictio

ns o

f Har

berg

er’s

(196

2)

clos

ed-e

cono

my

anal

ysis

, w

hich

impl

ies t

hat d

omes

tic c

apita

l ow

ners

bea

r the

ent

ire U

.S.

corp

orat

e in

com

e ta

x in

the

long

run.

Tho

se c

lose

d-ec

onom

y pr

edic

tions

still

app

ly to

the

wor

ld

as a

who

le.

But

in a

n op

en e

cono

my,

the

tax

caus

es in

com

e to

be

redi

strib

uted

inte

rnat

iona

lly

betw

een

fore

ign

and

dom

estic

ow

ners

of c

apita

l, an

d in

trana

tiona

lly b

etw

een

the

labo

r and

capi

tal o

wne

rs re

side

nt w

ithin

eac

h co

untry

. Fo

reig

n ow

ners

of c

apita

l bea

r the

dom

estic

-45-

corp

orat

e in

com

e ta

x ro

ughl

y in

pro

porti

on to

thei

r ow

ners

hip

of th

e w

orld

cap

ital s

tock

.

Fore

ign

labo

r ben

efits

by

abou

t tha

t sam

e am

ount

.

In a

dditi

on to

its e

ffec

ts o

n th

e do

mes

tic a

nd fo

reig

n su

bnat

iona

l dis

tribu

tions

of i

ncom

e,

a co

rpor

ate

inco

me

tax

can

redi

strib

ute

the

aggr

egat

e na

tiona

l inc

omes

bet

wee

n do

mes

tic a

nd

fore

ign

resi

dent

s. F

or e

xam

ple,

to th

e ex

tent

that

the

taxi

ng c

ount

ry is

a n

et in

tern

atio

nal l

ende

r,

its c

orpo

rate

inco

me

tax

can

trans

fer n

atio

nal i

ncom

es a

way

from

dom

estic

resi

dent

s tow

ard

fore

ign

resi

dent

s. A

ltern

ativ

ely,

whe

n th

e ta

xing

cou

ntry

is a

net

inte

rnat

iona

l bor

row

er, t

he

inte

rnat

iona

l tra

nsfe

r is r

ever

sed:

Par

t of t

he a

ggre

gate

tax

burd

en is

exp

orte

d to

fore

ign

resi

dent

s. B

ut o

nly

capi

tal o

wne

rs a

re a

ffec

ted

by th

e ag

greg

ate

inte

rnat

iona

l tra

nsfe

rs th

at o

ccur

whe

n th

e co

untry

is e

ither

a n

et in

tern

atio

nal l

ende

r or b

orro

wer

; lab

or’s

bur

den

is u

naff

ecte

d.

Sim

ilarly

, the

cor

pora

te in

com

e ta

x ca

n re

dist

ribut

e na

tiona

l inc

omes

in a

way

that

is li

ke

an a

d va

lore

m ta

riff o

n ex

ports

, as i

n W

halle

y (1

980)

. H

owev

er, t

he si

ze a

nd d

irect

ion

of th

at

effe

ct d

epen

d up

on th

e re

lativ

e ca

pita

l int

ensi

ties o

f pro

duct

ion

for i

nter

natio

nally

trad

able

corp

orat

e ou

tput

s tha

t are

impe

rfec

t sub

stitu

tes f

or th

eir f

orei

gn p

rodu

ced

coun

terp

arts

. W

hen

that

pro

duct

ion

is m

ore

capi

tal-i

nten

sive

than

pro

duct

ion

of th

e ot

her t

rada

ble

corp

orat

e ou

tput

s,

a co

rpor

ate

inco

me

tax

shift

s nat

iona

l inc

ome

tow

ard

dom

estic

resi

dent

s fro

m a

broa

d. I

n ef

fect

,

dom

estic

resi

dent

s ben

efit

from

thei

r ow

n co

untry

’s a

bilit

y to

exe

rt so

me

mar

ket p

ower

in

inte

rnat

iona

l tra

de b

y im

posi

ng a

cor

pora

te in

com

e ta

x. A

s sho

wn

in M

elvi

n (1

982)

and

Gra

velle

and

Sm

ette

rs (2

006)

, dom

estic

labo

r’s s

hare

of t

he ta

x bu

rden

can

be

low

er w

hen

the

dom

estic

cou

ntry

has

such

mar

ket p

ower

. H

owev

er, i

f pr

oduc

tion

of th

e im

perf

ect s

ubst

itute

s is

inst

ead

less

cap

ital-i

nten

sive

than

pro

duct

ion

of th

e ot

her t

rada

ble

corp

orat

e ou

tput

s, th

e ta

riff-

-46-

like

effe

cts o

f the

cor

pora

te in

com

e ta

x ar

e re

vers

ed: T

he ta

x sh

ifts n

atio

nal i

ncom

es to

war

d

fore

ign

resi

dent

s and

incr

ease

s dom

estic

labo

r’s b

urde

n.

This

stud

y al

so e

xam

ines

how

repl

acem

ent o

f the

cor

pora

te in

com

e ta

x by

any

of f

our

alte

rnat

ive

taxe

s wou

ld a

ffec

t the

dis

tribu

tion

of ta

x bu

rden

s:

!R

epla

cem

ent b

y a

gene

ral t

ax o

n in

com

e ge

nera

ted

by th

e us

e of

cap

ital w

ithin

all

dom

estic

sect

ors –

a ta

x th

at d

oes n

ot d

istin

guis

h be

twee

n co

rpor

ate

and

nonc

orpo

rate

inve

stm

ents

– sh

ifts a

bout

13

perc

ent o

f the

tax

burd

en a

way

from

dom

estic

labo

r tow

ard

dom

estic

cap

ital o

wne

rs.

!R

epla

cem

ent b

y a

tax

on d

omes

tic la

bor i

ncom

e sh

ifts t

he e

ntire

dom

estic

resi

dent

cap

ital

owne

rs’ b

urde

n to

war

d do

mes

tic la

bor.

Tha

t shi

ft in

crea

ses d

omes

tic la

bor’

s sha

re o

f the

burd

en b

y ab

out 2

6 pe

rcen

t of t

he ta

x re

venu

e.

!R

epla

cem

ent b

y a

tax

on th

e w

orld

wid

e ca

pita

l inc

ome

of d

omes

tic re

side

nts –

a ta

x th

at

achi

eves

cap

ital e

xpor

t neu

tralit

y –

shift

s the

ent

ire a

mou

nt o

f dom

estic

labo

r’s b

urde

n

tow

ard

the

dom

estic

ow

ners

of c

apita

l. T

hat s

hift

incr

ease

s the

dom

estic

resi

dent

cap

ital

owne

rs’ s

hare

of t

he b

urde

n by

abo

ut 6

8 pe

rcen

t of t

he ta

x re

venu

e. W

orld

wid

e, b

oth

labo

r and

cap

ital o

wne

rs b

enef

it sl

ight

ly fr

om a

n in

crea

sed

inve

stm

ent e

ffic

ienc

y un

der

that

repl

acem

ent t

ax, b

ut th

e la

rges

t cha

nges

are

in th

e re

dist

ribut

ion

of ta

x bu

rden

s

tow

ard

the

dom

estic

ow

ners

of c

apita

l aw

ay fr

om d

omes

tic la

bor,

and

away

from

fore

ign

owne

rs o

f cap

ital t

owar

d fo

reig

n la

bor.

!R

epla

cem

ent b

y an

y of

the

last

thre

e do

mes

tic p

erso

nal t

axes

wou

ld e

limin

ate

fore

ign

labo

r’s b

enef

it an

d th

e fo

reig

n re

side

nt c

apita

l ow

ners

’ bur

den,

equ

al to

abo

ut 7

0 pe

rcen

t

of th

e ta

x re

venu

e.

-47-

The

mod

el d

oes n

ot p

rovi

de a

theo

ry o

f int

erna

tiona

l tax

com

petit

ion,

but

its p

redi

ctio

ns

offe

r ins

ight

s int

o ho

w th

e ta

x bu

rden

s are

redi

strib

uted

whe

n m

ore

than

one

cou

ntry

impo

ses a

corp

orat

e in

com

e ta

x. W

hen

mor

e co

untri

es im

pose

the

tax,

the

inte

rnat

iona

l eff

ects

are

less

pron

ounc

ed o

n av

erag

e w

ithin

thos

e ta

xing

cou

ntrie

s and

mor

e pr

onou

nced

with

in th

e ot

her

coun

tries

, the

tax

have

ns.

If th

e ta

x ha

vens

acc

ount

for o

nly

a sm

all s

hare

of w

orld

pro

duct

ion,

labo

r’s b

urde

n is

als

o sm

all o

n av

erag

e fo

r res

iden

ts o

f the

cou

ntrie

s tha

t are

not

tax

have

ns.

But

labo

r’s b

enef

it ca

n be

larg

e on

ave

rage

for r

esid

ents

of t

he ta

x ha

vens

. Th

e be

nefit

from

redu

cing

the

tax

can

also

be

larg

e at

the

mar

gin

for w

orke

rs re

side

nt in

any

smal

l cou

ntry

that

is n

ot a

tax

have

n. T

hat m

argi

nal b

enef

it eq

uals

the

diff

eren

ce b

etw

een

labo

r’s b

urde

n fr

om re

sidi

ng in

a

coun

try th

at is

not

a ta

x ha

ven

and

labo

r’s b

enef

it fr

om re

sidi

ng in

a ta

x ha

ven.

Whe

n co

untri

es

are

adde

d to

the

tax-

have

n gr

oup,

the

aver

age

corp

orat

e ta

x bu

rden

s with

in th

e ex

istin

g ta

x-ha

ven

coun

tries

are

shift

ed to

war

d w

orke

rs a

nd a

way

from

thei

r res

iden

t cap

ital o

wne

rs.

As m

ore

coun

tries

bec

ome

tax

have

ns, w

orke

rs li

ving

in th

e co

untri

es th

at a

re n

ot ta

x ha

vens

acq

uire

an

incr

easi

ng a

vera

ge sh

are

of th

e bu

rden

. Th

e av

erag

e bu

rden

s are

redu

ced

for c

apita

l ow

ners

in

thos

e co

untri

es.

For a

cou

ntry

at t

he m

argi

n of

dec

idin

g w

heth

er to

impo

se o

r cha

nge

the

corp

orat

e in

com

e ta

x, h

owev

er, i

t mak

es a

lmos

t no

diff

eren

ce to

dom

estic

resi

dent

s whe

ther

othe

r cou

ntrie

s im

pose

cor

pora

te in

com

e ta

xes.

38 H

arbe

rger

(199

5), p

. 65.

-48-

App

endi

x: O

ther

Stu

dies

Har

berg

er

The

mod

el d

evel

oped

in th

is st

udy

is b

ased

on

Har

berg

er (1

995)

, but

the

resu

lts a

ppea

r

quite

diff

eren

t fro

m th

at st

udy.

Tha

t ear

lier s

tudy

pre

dict

ed th

at “

labo

r will

bea

r 2 to

2½

tim

es

the

full

burd

en o

f the

U.S

.” c

orpo

rate

inco

me

tax.

38 T

his s

tudy

pre

dict

s tha

t dom

estic

labo

r

wou

ld b

ear a

bout

74

perc

ent o

f the

cor

pora

te in

com

e ta

x un

der s

hare

ass

umpt

ions

app

ropr

iate

for

the

U.S

. eco

nom

y. T

he w

ide

gap

betw

een

thos

e pr

edic

tions

is e

xpla

ined

par

tly b

y a

diff

eren

ce in

assu

mpt

ions

abo

ut c

apita

l int

ensi

ties a

nd o

utpu

t sha

res.

But

mos

t of t

he d

iffer

ence

aris

es

beca

use

the

burd

ens a

re m

easu

red

diff

eren

tly.

The

Har

berg

er (1

995)

con

clus

ion

is b

ased

onl

y on

chan

ges i

n th

e so

urce

s of i

ncom

e, w

here

as th

is st

udy

com

bine

s the

eff

ects

on

both

sour

ces a

nd

uses

. A

rece

nt st

udy

by H

arbe

rger

(200

6) c

oncl

udes

that

dom

estic

labo

r bea

rs 9

6 pe

rcen

t of t

he

burd

en.

That

stud

y re

ache

s a c

oncl

usio

n di

ffer

ent f

rom

Har

berg

er (1

995)

mai

nly

beca

use

the

late

r stu

dy c

ombi

nes t

he e

ffec

ts o

n bo

th so

urce

s and

use

s in

its m

easu

re o

f bur

den,

but

als

o

beca

use

the

late

r stu

dy m

akes

slig

htly

diff

eren

t ass

umpt

ions

abo

ut th

e U

.S. e

cono

my.

Har

berg

er (1

995)

doe

s not

fully

spec

ify th

e ca

pita

l int

ensi

ties a

nd o

utpu

t sha

re

assu

mpt

ions

nec

essa

ry to

exa

min

e th

e ef

fect

s on

both

sour

ces a

nd u

ses.

How

ever

, the

cap

ital

inte

nsiti

es a

nd o

utpu

t sha

res c

an b

e sp

ecifi

ed in

a w

ay th

at is

con

sist

ent w

ith H

arbe

rger

’s (1

995)

assu

mpt

ions

: tha

t lab

or e

mpl

oyed

in th

e fir

st tw

o se

ctor

s acc

ount

s for

one

-fou

rth o

f the

dom

estic

labo

r for

ce; t

hat c

apita

l use

d in

the

first

two

sect

ors a

ccou

nts f

or o

ne-h

alf o

f all

capi

tal u

sed

in

the

corp

orat

e se

ctor

s; a

nd th

at d

omes

tic c

apita

l acc

ount

s for

thre

e-ei

ghth

s of t

he w

orld

’s c

apita

l

stoc

k. O

ther

wis

e, th

e pa

ram

eter

val

ues (

Tabl

e A

1) h

ave

been

com

plet

ed w

ith sh

are

assu

mpt

ions

39 A

ltern

ativ

ely,

the

first

thre

e se

ctor

s can

be

assu

med

to h

ave

the

sam

e re

lativ

e ca

pita

l int

ensi

ties a

s in

Tabl

e 1,

but

the

capi

tal i

nten

sity

of s

ecto

r fiv

e m

ust b

e m

uch

low

er fo

r the

Har

berg

er (1

995)

ass

umpt

ions

to b

e sa

tisfie

d. E

ither

way

, tho

se a

ssum

ptio

ns d

o no

t app

ear t

o be

reas

onab

le fo

r the

U.S

. eco

nom

y. S

ecto

r thr

ee in

clud

es u

tiliti

es a

ndtra

nspo

rtatio

n, b

oth

of w

hich

are

mor

e ca

pita

l-int

ensi

ve th

an th

e m

anuf

actu

ring

in se

ctor

s one

and

two.

Sec

tor f

ive

incl

udes

hou

sing

and

reta

il se

rvic

es, f

or w

hich

pro

duct

ion

is m

uch

mor

e ca

pita

l int

ensi

ve th

an m

anuf

actu

ring.

40 U

nder

the

assu

mpt

ions

in T

able

A1,

the

dom

estic

con

sum

er’s

bur

den

is -9

5.8

perc

ent o

f the

reve

nue,

whi

le th

efo

reig

n co

nsum

er’s

bur

den

is -0

.04

perc

ent o

f the

reve

nue. -4

9-

mad

e by

Gra

velle

and

Sm

ette

rs (2

006)

, mos

t crit

ical

of w

hich

is th

e as

sum

ptio

n th

at la

bor

rece

ives

abo

ut 7

0 pe

rcen

t of t

he v

alue

of t

otal

out

put.

Com

pare

d to

the

base

cas

e in

this

stud

y

(Tab

le 1

), th

e ca

pita

l int

ensi

ty is

ass

umed

to b

e hi

gher

in th

e fir

st tw

o se

ctor

s (m

anuf

actu

ring)

.

Als

o, in

con

trast

to th

e ba

se c

ase,

sect

or th

ree

(util

ities

) is a

ssum

ed to

be

less

cap

ital i

nten

sive

than

the

first

two

sect

ors.39

The

Har

berg

er (1

995)

resu

lts c

an b

e re

prod

uced

for a

ver

y sm

all e

cono

my

whe

n th

e ta

x

rate

is in

finite

sim

al (T

able

A2)

. Fo

cusi

ng o

nly

on th

e so

urce

s of i

ncom

e, d

omes

tic la

bor b

ears

200

perc

ent o

f the

bur

den

of th

e co

rpor

ate

inco

me

tax.

How

ever

, the

dom

estic

con

sum

er’s

bene

fit e

qual

s 95.

8 pe

rcen

t of t

he ta

x re

venu

e, so

whe

n th

e so

urce

s and

use

s are

com

bine

d,

dom

estic

labo

r bea

rs o

nly

132.

9 pe

rcen

t of t

he b

urde

n –

still

a v

ery

larg

e sh

are.

But

the

sour

ces-

side

mea

sure

of b

urde

n ha

s litt

le m

eani

ng b

y its

elf.

As d

iscu

ssed

in a

n ea

rlier

sect

ion

of th

is

stud

y, th

e so

urce

s-si

de m

easu

re is

mea

ning

ful o

nly

if it

is c

ombi

ned

with

the

othe

r dom

estic

sour

ces-

side

bur

dens

as a

way

of m

easu

ring

chan

ges i

n th

e re

lativ

e di

strib

utio

n of

inco

me

paid

to

diff

eren

t dom

estic

fact

or o

wne

rs.

Furth

er, t

he so

urce

s-si

de b

urde

n ca

nnot

be

com

pare

d di

rect

ly

to th

e so

urce

s-si

de b

urde

ns o

f for

eign

resi

dent

s bec

ause

dom

estic

and

fore

ign

cons

umer

pric

es

chan

ge b

y di

ffer

ent a

mou

nts.40

The

rela

tive

real

inco

mes

of f

orei

gn a

nd d

omes

tic re

side

nts a

re

ther

efor

e fu

nctio

ns o

f tho

se d

iffer

ent c

hang

es in

con

sum

er p

rices

.

Whe

n th

e ef

fect

s on

sour

ces a

nd u

ses a

re c

ombi

ned,

pre

dict

ions

abo

ut b

urde

ns o

f the

corp

orat

e in

com

e ta

x ar

e no

t cha

nged

subs

tant

ially

by

the

assu

mpt

ions

in T

able

A1

(com

pare

d

-50-

with

Tab

le 1

). W

hen

the

dom

estic

eco

nom

y eq

uals

37.

5 pe

rcen

t of t

he w

orld

eco

nom

y an

d th

e

tax

rate

equ

als 6

.25

perc

ent,

the

com

bine

d m

easu

res o

f bur

den

(Tab

le A

2) u

nder

the

assu

mpt

ions

in T

able

A1

are

muc

h cl

oser

to th

e bu

rden

s pre

dict

ed u

nder

the

assu

mpt

ions

of t

he b

ase

case

in

this

stud

y (T

able

1).

Und

er th

e as

sum

ptio

ns c

onsi

sten

t with

Har

berg

er’s

(199

5) a

pplic

atio

n,

dom

estic

labo

r bea

rs 8

7.1

perc

ent o

f the

bur

den.

Dom

estic

cap

ital o

wne

rs b

ear 2

1.3

perc

ent o

f

the

tax.

Alth

ough

87.

1 pe

rcen

t and

73.

7 pe

rcen

t are

diff

eren

t, bo

th n

umbe

rs im

ply

that

dom

estic

labo

r bea

rs m

ost,

but n

ot m

ore

than

100

per

cent

, of t

he c

orpo

rate

inco

me

tax.

Har

berg

er (1

995,

200

6) a

ssum

es th

at w

orld

wid

e ca

pita

l inc

ome

is re

duce

d by

exa

ctly

100

perc

ent o

f the

reve

nue

from

the

corp

orat

e in

com

e ta

x. H

owev

er, a

lthou

gh c

apita

l ow

ners

wor

ldw

ide

bear

slig

htly

mor

e th

an 1

00 p

erce

nt o

f the

cor

pora

te ta

x bu

rden

whe

n ef

fect

s on

both

the

sour

ces a

nd u

ses o

f inc

ome

are

com

bine

d, th

at o

utco

me

does

not

occ

ur w

hen

the

mea

sure

of

burd

en is

bas

ed o

nly

on th

e so

urce

s. A

ccor

ding

to E

quat

ion

(4),

the

redu

ctio

n in

wor

ldw

ide

capi

tal i

ncom

e w

ould

not

gen

eral

ly e

qual

100

per

cent

of t

he re

venu

e w

hen

the

corp

orat

e in

com

e

tax

is im

pose

d on

ly o

n so

me

dom

estic

sect

ors.

Und

er th

e as

sum

ptio

ns (T

able

A1)

con

sist

ent

with

Har

berg

er (1

995)

, wor

ldw

ide

capi

tal i

ncom

e is

redu

ced

by 1

33.4

per

cent

(50

perc

ent +

83.

4

perc

ent)

of th

e re

venu

e w

hen

the

6.25

per

cent

cor

pora

te in

com

e ta

x is

impo

sed

in th

e la

rge

econ

omy

(Tab

le A

2).

Rem

arka

bly,

whe

n ef

fect

s on

the

sour

ces a

nd u

ses o

f inc

ome

are

com

bine

d, c

apita

l ow

ners

wor

ldw

ide

bear

104

.6 p

erce

nt o

f the

bur

den

(21.

3 pe

rcen

t + 8

3.3

perc

ent). A

ccor

ding

to E

quat

ion

(14)

, the

100

per

cent

shar

e as

sum

ptio

n m

ade

by H

arbe

rger

(199

5,

2006

) wou

ld b

e tru

e fo

r a sm

all g

ener

al ta

x on

cap

ital i

mpo

sed

on a

ll do

mes

tic se

ctor

s. U

nder

the

gene

ral r

epla

cem

ent t

ax (n

ot sh

own

in T

able

A2)

impo

sed

in th

e la

rge

econ

omy,

wor

ldw

ide

41 G

rave

lle a

nd S

met

ters

, Tab

le 2

.

-51-

capi

tal i

ncom

e fa

lls b

y 10

1.6

perc

ent o

f the

reve

nue

rega

rdle

ss o

f whe

ther

the

sour

ces a

nd u

ses

are

com

bine

d in

the

mea

sure

of t

ax b

urde

n. T

he w

orld

wid

e ex

cess

bur

den

from

that

tax

is 1

.6

perc

ent o

f the

reve

nue.

For c

ompa

rison

, und

er th

e sh

are

assu

mpt

ions

from

Tab

le 1

, wor

ldw

ide

capi

tal i

ncom

e

falls

by

119.

3 pe

rcen

t (35

.8 p

erce

nt +

83.

5 pe

rcen

t) of

the

reve

nue

whe

n th

e 6.

25 p

erce

nt

corp

orat

e in

com

e ta

x is

impo

sed

in th

e la

rge

econ

omy

(Tab

le A

2).

Cap

ital o

wne

rs w

orld

wid

e

bear

104

.7 p

erce

nt (3

2.5

perc

ent +

72.

2 pe

rcen

t) of

the

burd

en w

hen

sour

ces a

nd u

ses a

re

com

bine

d. U

nder

the

gene

ral r

epla

cem

ent t

ax im

pose

d in

the

larg

e ec

onom

y (n

ot sh

own

in T

able

A2)

, wor

ldw

ide

capi

tal i

ncom

e fa

lls b

y 10

2.5

perc

ent o

f the

reve

nue

rega

rdle

ss o

f whe

ther

sour

ces a

nd u

ses a

re c

ombi

ned.

Gra

velle

and

Sm

ette

rs

Und

er th

e ba

sic

assu

mpt

ions

, the

num

eric

al re

sults

of t

his s

tudy

are

ver

y cl

ose

to th

e

resu

lts in

Gra

velle

and

Sm

ette

rs (2

006)

whe

n th

ose

auth

ors a

ssum

e th

at in

tern

atio

nal c

apita

l

mob

ility

is p

erfe

ct, a

nd th

at th

ere

is a

nea

rly p

erfe

ct d

eman

d su

bstit

utio

n be

twee

n th

e do

mes

tic

and

fore

ign

inte

rnat

iona

lly tr

adea

ble

good

s pro

duce

d in

the

corp

orat

e se

ctor

. In

that

cas

e, th

eir

sim

ulat

ions

pre

dict

that

dom

estic

labo

r bea

rs 7

3 pe

rcen

t of t

he b

urde

n, d

omes

tic c

apita

l ow

ners

bear

35

perc

ent,

fore

ign

capi

tal o

wne

rs b

ears

67

perc

ent,

fore

ign

labo

r bea

rs -6

9 pe

rcen

t, an

d th

e

wor

ldw

ide

exce

ss b

urde

n eq

uals

abo

ut 5

per

cent

of t

he re

venu

e.41

In

the

base

cas

e (T

able

3),

the

mod

el u

sed

in th

is st

udy

pred

icts

that

dom

estic

labo

r bea

rs 7

4 pe

rcen

t, do

mes

tic c

apita

l ow

ners

42 O

ther

ass

umpt

ions

mig

ht d

iffer

slig

htly

bet

wee

n th

e stu

dies

, but

the

effe

cts o

f tho

se a

ssum

ptio

ns a

ppea

r to

besm

all.

For

exa

mpl

e, w

hen

the

parti

al su

bstit

utio

n el

astic

ity b

etw

een

capi

tal a

nd la

bor i

s inc

reas

ed to

equ

al 1

, the

mod

el u

sed

in th

is st

udy

pred

icts

that

the

exce

ss b

urde

n w

ill e

qual

abo

ut 6

per

cent

; the

bur

den

shar

es a

re v

irtua

llyun

affe

cted

.43

The

onl

y ex

cept

ion

occu

rs if

the

dem

and

subs

titut

ion

is (n

early

) per

fect

and

the

capi

tal i

nten

sitie

s diff

er in

the

first

two

sect

ors.

In th

at e

vent

, the

mor

e ca

pita

l-int

ensi

ve d

omes

tic se

ctor

will

stop

pro

duci

ng in

resp

onse

to th

eco

rpor

ate

tax;

the

fore

ign

coun

try w

ill p

rodu

ce a

ll of

that

goo

d. T

he d

omes

tic w

age

rate

will

be

dete

rmin

ed in

the

rem

aini

ng d

omes

tic c

orpo

rate

trad

able

sect

or.

-52-

bear

33

perc

ent,

fore

ign

capi

tal o

wne

rs b

ear 7

2 pe

rcen

t, fo

reig

n la

bor b

ears

-71

perc

ent,

and

the

exce

ss b

urde

n eq

uals

abo

ut 4

per

cent

of t

he re

venu

e.

It is

not

surp

risin

g th

at th

e re

sults

of t

he tw

o st

udie

s are

so c

lose

. Ev

en th

ough

the

mod

el

appl

ied

in th

is st

udy

has a

n ad

ditio

nal s

ecto

r (se

ctor

one

), th

e pr

edic

tions

shou

ld a

ppro

xim

ate

the

Gra

velle

and

Sm

ette

rs m

odel

whe

n th

e ta

x ra

te is

smal

l and

the

auth

ors a

ssum

e th

at c

apita

l

mob

ility

is p

erfe

ct a

nd th

e in

tern

atio

nally

trad

ed c

orpo

rate

goo

ds a

re p

erfe

ct su

bstit

utes

. Fu

rther

,

both

stud

ies m

ake

the

sam

e as

sum

ptio

ns a

bout

the

size

s of s

ecto

rs a

nd th

e in

tens

ities

of f

acto

r

inpu

ts.42 Th

e tw

o st

udie

s pro

duce

ver

y di

ffer

ent r

esul

ts w

hen

ther

e is

a lo

w d

egre

e of

dem

and

subs

titut

ion

betw

een

the

fore

ign

and

dom

estic

cor

pora

te tr

adea

ble

good

s. In

that

cas

e, th

e

pred

ictio

ns o

f the

five

-sec

tor m

odel

use

d in

this

stud

y do

not

dep

end

dire

ctly

on

that

deg

ree

of

dem

and

subs

titut

abili

ty.43

In

cont

rast

, the

four

sect

or m

odel

use

d by

Gra

velle

and

Sm

ette

rs

pred

icts

that

labo

r bea

rs o

nly

21 p

erce

nt o

f the

bur

den

if ca

pita

l is p

erfe

ctly

mob

ile a

nd th

e

inte

rnat

iona

l out

put d

eman

d su

bstit

utio

n el

astic

ity e

qual

s 1.

How

the

outp

ut d

eman

d su

bstit

utio

n el

astic

ity a

ffec

ts th

e pr

edic

tions

of t

he fo

ur se

ctor

mod

el o

f Gra

velle

and

Sm

ette

rs c

an b

e re

adily

und

erst

ood

in te

rms o

f the

five

-sec

tor m

odel

use

d

in th

is st

udy.

Firs

t, su

ppos

e th

at se

ctor

one

of t

he fi

ve-s

ecto

r mod

el p

rodu

ces n

o ou

tput

, and

that

sect

or fo

ur (a

gric

ultu

re) p

rodu

ces t

he n

umer

aire

. N

ow, t

he w

age

rate

is d

eter

min

ed in

sect

or tw

o.

Unl

ike

the

base

cas

e in

this

stud

y, b

oth

the

dom

estic

sect

or tw

o ou

tput

pric

e an

d th

e do

mes

tic

-53-

wag

e ra

te c

an c

hang

e w

hen

the

corp

orat

e co

st o

f cap

ital i

s inc

reas

ed b

y th

e ta

x. I

f the

dem

and

subs

titut

ion

elas

ticity

bet

wee

n th

e fo

reig

n an

d do

mes

tic c

orpo

rate

trad

able

goo

ds is

ver

y hi

gh,

the

dom

estic

wag

e ra

te m

ust f

all s

uffic

ient

ly to

fully

off

set a

n in

crea

se in

the

corp

orat

e co

st o

f

capi

tal,

as in

the

five-

sect

or e

cono

my.

How

ever

, if t

he d

eman

d su

bstit

utio

n el

astic

ity is

smal

l,

the

dom

estic

out

put p

rice

can

incr

ease

in se

ctor

two.

In

that

cas

e, th

e do

mes

tic w

age

rate

doe

s

not h

ave

to fa

ll as

muc

h in

ord

er to

off

set t

he in

crea

sed

corp

orat

e co

st o

f cap

ital.

Dom

estic

cons

umer

pric

es w

ill in

crea

se c

ompa

red

to e

quili

bria

whe

n th

e de

man

d su

bstit

utio

n el

astic

ity is

high

, off

set s

omew

hat b

y im

prov

ed in

tern

atio

nal t

erm

s of t

rade

for t

he d

omes

tic e

cono

my.

How

ever

, the

real

bur

den

for d

omes

tic la

bor w

ill b

e sm

alle

r tha

n w

hen

the

outp

ut d

eman

d

subs

titut

ion

elas

ticity

is h

ighe

r. F

urth

er, b

ecau

se th

at d

eman

d su

bstit

utio

n el

astic

ity d

oes n

ot

affe

ct th

e in

tern

atio

nal a

lloca

tion

of c

apita

l, do

mes

tic c

apita

l ow

ners

will

bea

r a sl

ight

ly la

rger

burd

en b

ecau

se th

ey w

ill h

ave

to p

ay h

ighe

r con

sum

er p

rices

than

whe

n th

e de

man

d su

bstit

utio

n

elas

ticity

is h

ighe

r.

Whe

n th

e de

man

d su

bstit

utio

n el

astic

ity is

low

for o

utpu

ts o

f the

cor

pora

te tr

adab

le

sect

or, e

ach

coun

try h

as so

me

pote

ntia

l mar

ket p

ower

in in

tern

atio

nal t

rade

, eve

n th

ough

com

petit

ion

is p

erfe

ct a

t the

leve

l of t

he in

divi

dual

firm

. In

par

t, th

e do

mes

tic c

orpo

rate

tax

can

act l

ike

a do

mes

tic ta

riff o

n ex

ports

from

the

corp

orat

e se

ctor

. U

nder

eith

er th

e co

rpor

ate

tax

or

such

a ta

riff,

the

dom

estic

nat

iona

l inc

ome

is in

crea

sed

at th

e ex

pens

e of

a d

ecre

ase

in th

e fo

reig

n

natio

nal i

ncom

e. D

omes

tic c

apita

l ow

ners

still

ear

n ro

ughl

y th

e sa

me

nom

inal

retu

rn u

nder

the

corp

orat

e ta

x as

whe

n th

e de

man

d su

bstit

utio

n el

astic

ity is

hig

her,

but t

hey

mus

t pay

hig

her

cons

umer

pric

es, s

o th

e do

mes

tic c

apita

l ow

ners

’ bur

den

is h

ighe

r whe

n th

e su

bstit

utio

n el

astic

ity

is lo

wer

. D

omes

tic la

bor’

s bur

den

is d

ecre

ased

by

the

rise

in d

omes

tic n

atio

nal i

ncom

e w

hen

the

44 S

ee a

lso

McD

anie

l and

Bal

istre

ri (2

003)

for a

surv

ey o

f tra

de e

last

iciti

es.

-54-

subs

titut

ion

elas

ticity

is lo

w.

Whe

n th

e ou

tput

dem

and

subs

titut

ion

and

capi

tal m

obili

ty a

re

perf

ect,

fore

ign

resi

dent

s ove

rall

do n

ot b

ear a

ny b

urde

n of

the

tax.

How

ever

, whe

n th

e ou

tput

dem

and

subs

titut

ion

elas

ticity

is o

nly

1, th

e G

rave

lle a

nd S

met

ters

mod

el p

redi

cts t

hat t

he ta

riff-

like

effe

ct a

llow

s the

dom

estic

eco

nom

y to

exp

ort a

bout

hal

f of t

he to

tal b

urde

n of

its c

orpo

rate

inco

me

tax

to fo

reig

ners

.

The

Gra

velle

and

Sm

ette

rs m

odel

, in

effe

ct, a

llow

s the

aut

hors

to m

easu

re h

ow th

e

corp

orat

e ta

x m

ight

aff

ect t

he d

istri

butio

n of

bur

dens

thro

ugh

its e

ffec

ts o

n in

tern

atio

nal t

rade

whe

n th

e do

mes

tic c

ount

ry h

as so

me

wor

ld m

onop

oly

pow

er.

The

anal

ysis

in th

is st

udy

indi

cate

s tha

t the

trad

e ef

fect

s and

bur

dens

will

be

diff

eren

t whe

n th

ere

are

addi

tiona

l cor

pora

te

sect

ors t

hat p

rodu

ce g

oods

with

hig

her r

ates

of o

utpu

t dem

and

subs

titut

abili

ty b

etw

een

the

dom

estic

and

fore

ign

varie

ties.

A re

cent

stud

y by

Erk

el-R

ouss

e an

d M

irza

(200

2) e

stim

ated

impo

rt pr

ice

elas

ticiti

es b

ased

on

bila

tera

l tra

de e

quat

ions

. Th

ey e

stim

ate

larg

er e

last

iciti

es fo

r

certa

in p

rodu

cts s

uch

as ru

bber

(-6.

5) a

nd n

on-m

etal

lic p

rodu

cts (

-6.6

) tha

n fo

r oth

er p

rodu

cts

such

as b

ever

ages

(-1.

7) a

nd fo

od p

rodu

cts (

-1.0

). F

urth

er, e

ven

thei

r ave

rage

ela

stic

ity e

stim

ate

is fa

irly

larg

e: T

hey

estim

ate

an a

vera

ge e

last

icity

of -

3.8

for a

ll in

dust

ries.

Rea

sona

ble

long

-run

elas

ticiti

es a

re li

kely

to b

e ev

en la

rger

.44

Tab

le 1

: In

itial

Ass

umpt

ions

Shar

e of

Val

ue A

dded

in S

ecto

r

Shar

e of

Labo

rC

apita

lLa

ndO

utpu

tC

orpo

rate

Sec

tors

Se

ctor

s 1 a

nd 2

: Tr

adea

ble

82%

18%

…28

%

Sect

or 3

: N

ontra

deab

le76

%24

%…

45%

Non

-Cor

pora

te S

ecto

rs

Sect

or 4

: Tr

adea

ble,

agr

icul

ture

49%

17%

34%

3%

Sect

or 5

: N

ontra

deab

le47

%53

% …

24%

Tota

l70

%29

%1%

100%

Dom

estic

eco

nom

y's s

hare

of w

orld

out

put

30%

Dom

estic

ow

ners

hip

shar

e of

wor

ld c

apita

l30

%Pa

rtial

ela

stic

ity o

f sub

stitu

tion,

cap

ital a

nd la

bor

0.6

Sour

ce:

Bas

ed o

n G

rave

lle a

nd S

met

ters

(200

6).

-55-

Tab

le 2

: E

cono

mic

Cha

nges

und

er C

orpo

rate

and

Gen

eral

Tax

es

Cor

pora

te T

ax

Gen

eral

Tax

Dom

estic

For

eign

Dom

estic

For

eign

Tax

rat

e (t

ax-e

xclu

sive

)

Cor

pora

te se

ctor

s6.

25%

0.0%

3.35

%0.

0%

Non

corp

orat

e se

ctor

s0.

0%0.

0%3.

35%

0.0%

Cap

ital s

tock

cha

nges

C

orpo

rate

sect

ors

-3.7

%0.

85%

-1.7

%0.

73%

N

onco

rpor

ate

sect

ors

0.0

36%

0.85

%-1

.7%

0.73

%

Tota

l (w

eigh

ted

by c

apita

l sha

res)

-2.0

%0.

85%

-1.7

%0.

73%

Inpu

t pri

ce c

hang

es

Cos

t of c

apita

l

C

orpo

rate

sect

ors

5.0%

-1.2

%2.

3%-0

.99%

Non

corp

orat

e se

ctor

s-1

.2%

-1.2

%2.

3%-0

.99%

W

age

rate

-1.1

%0.

25%

-0.5

1%0.

22%

La

nd re

nt2.

2%0.

21%

-0.4

3%0.

18%

Con

sum

er p

rice

cha

nges

C

orpo

rate

sect

ors

Sect

or 1

: Tr

adea

ble,

num

erai

re0.

0%0.

0%0.

0%0.

0%

Se

ctor

2:

Trad

eabl

e, u

niqu

e0.

0%0.

0%0.

0%0.

0%

Se

ctor

3:

Non

trade

able

0.37

%-0

.085

%0.

17%

-0.0

7%

Non

-cor

pora

te se

ctor

s

Se

ctor

4:

Trad

eabl

e, a

gric

ultu

re0.

0%0.

0%0.

0%0.

0%

Se

ctor

5:

Non

trade

able

-1.1

%-0

.5%

0.99

%-0

.42%

To

tal (

Lasp

eyre

s)-0

.11%

-0.1

6%0.

31%

-0.1

3%

Priv

ate

inco

me

chan

ges (

real

)

Labo

r-0

.99%

0.41

%-0

.82%

0.35

%

Cap

ital

-1.1

%-1

.0%

-1.3

%-0

.86%

La

nd2.

3%0.

37%

-0.7

4%0.

32%

To

tal (

wei

ghte

d by

inco

me

shar

es)

-0.9

78%

0.00

%-0

.963

%0.

00%

Tax

reve

nue

(per

cent

age

of o

utpu

t)0.

944%

0.00

%0.

944%

0.00

%N

atio

nal i

ncom

e (p

erce

ntag

e of

reve

nue)

-3.7

0%0.

00%

-2.0

5%0.

00%

Wor

ldw

ide

inco

me

(per

cent

age

of re

venu

e)-3

.70%

-2.0

5%

-56-

Tab

le 3

: B

urde

ns o

f the

Cor

pora

te In

com

e T

ax

Labo

rC

apita

lLa

ndTo

tal

Dom

estic

Tax

es o

n C

apita

l Inc

ome

at P

rodu

cer

Lev

el;

Bur

dens

as S

hare

s of R

even

ueC

orpo

rate

Tax

Dom

estic

73.7

%32

.5%

-2.5

%10

3.7%

For

eign

-71.

3% 7

2.2%

-0.9

%

0.0

% W

orld

wid

e2.

4%10

4.7%

-3.4

%10

3.7%

Gen

eral

Tax

Dom

estic

61.0

%40

.3%

0.8%

102.

0% F

orei

gn-6

1.0%

61.

8%-0

.8%

0

.0%

Wor

ldw

ide

0.0%

102.

0%0.

0%10

2.0%

Rep

lace

men

t Tax

es;

Diff

eren

tial B

urde

ns a

s Sha

res o

f Rev

enue

Gen

eral

Tax

Dom

estic

-12.

7%7.

8%3.

3%-1

.7%

For

eign

10.3

%-1

0.4%

0.1%

0.0

% W

orld

wid

e-2

.4%

-2.7

%3.

4%-1

.7%

Dom

estic

Lab

or In

com

e D

omes

tic26

.3%

-32.

5%2.

5%-3

.7%

For

eign

71.3

% -

72.2

%0.

9% 0

.0%

Wor

ldw

ide

97.6

%-1

04.7

%3.

4%-3

.7%

Wor

dwid

e C

apita

l Inc

ome

of D

omes

tic R

esid

ents

Dom

estic

-73.

7%67

.5%

2.5%

-3.7

% F

orei

gn71

.3%

-72.

2%0.

9% 0

.0%

Wor

ldw

ide

-2.4

%-4

.7%

3.4%

-3.7

%

Dom

estic

Per

sona

l Inc

ome

or C

onsu

mpt

ion

Dom

estic

-3.8

%-3

.4%

3.5%

-3.7

% F

orei

gn71

.3%

-72.

2%0.

9% 0

.0%

Wor

ldw

ide

67.5

%-7

5.6%

4.4%

-3.7

%

-57-

Tab

le 4

: B

urde

ns o

f the

Cor

pora

te In

com

e T

ax a

t an

Infin

itesi

mal

Tax

Rat

e

Labo

rC

apita

lLa

ndTo

tal

Dom

estic

Tax

es o

n C

apita

l Inc

ome

at P

rodu

cer

Lev

el;

Bur

dens

as S

hare

s of R

even

ueC

orpo

rate

Tax

Dom

estic

71.0

%31

.3%

-2.4

%10

0.0%

For

eign

-68.

7% 6

9.6%

-0.9

%

0.0

% W

orld

wid

e2.

3%10

1.0%

-3.3

%10

0.0%

Gen

eral

Tax

Dom

estic

59.7

%39

.5%

0.8%

100.

0% F

orei

gn-5

9.7%

60.

5%-0

.8%

0

.0%

Wor

ldw

ide

0.0%

100.

0%0.

0%10

0.0%

Rep

lace

men

t Tax

es;

Diff

eren

tial B

urde

ns a

s Sha

res o

f Rev

enue

Gen

eral

Tax

Dom

estic

-11.

3%8.

1%3.

2%0.

0% F

orei

gn 9

.0%

-9.1

%0.

1%0.

0% W

orld

wid

e-2

.3%

-1.0

%3.

3%0.

0%

Dom

estic

Lab

or In

com

e D

omes

tic29

.0%

-31.

3%2.

4%0.

0% F

orei

gn68

.7%

-69

.6%

0.9%

0.0%

Wor

ldw

ide

97.7

%-1

01.0

%3.

3%0.

0%

Wor

ldw

ide

Cap

ital I

ncom

e of

Dom

estic

Res

iden

ts D

omes

tic-7

1.0%

68.7

%2.

4%0.

0% F

orei

gn68

.7%

-69.

6%0.

9%0.

0% W

orld

wid

e-2

.3%

-1.0

%3.

3%0.

0%

Dom

estic

Per

sona

l Inc

ome

or C

onsu

mpt

ion

Dom

estic

-1.1

%-2

.3%

3.4%

0.0%

For

eign

68.7

%-6

9.6%

0.9%

0.0%

Wor

ldw

ide

67.6

%-7

1.9%

4.3%

0.0%

-58-

Tab

le 5

: In

tern

atio

nal S

pillo

ver

Eff

ects

of a

Dom

estic

Cor

pora

te In

com

e T

a x

Bur

den

as a

Sha

re o

f Rev

enue

Labo

rC

apita

lLa

ndTo

tal

Bas

e C

ase

(fro

m T

able

3)

Dom

estic

73.7

%32

.5%

-2.5

%10

3.7%

Fore

ign

-71.

3% 7

2.2%

-0.9

%

0.0

%W

orld

wid

e2.

4%10

4.7%

-3.4

%10

3.7%

Dom

estic

Cou

ntry

is a

Net

Inte

rnat

iona

l Len

der

Dom

estic

73.7

%37

.9%

-2.5

%10

9.1%

Fore

ign

-71.

3% 6

7.0%

-0.9

%

-5.2

%W

orld

wid

e2.

4%10

5.0%

-3.4

%10

4.0%

Dom

estic

Cou

ntry

is a

Net

Inte

rnat

iona

l Bor

row

er

Dom

estic

73.7

%27

.1%

-2.5

%98

.3%

Fore

ign

-71.

3% 7

7.4%

-0.9

%

5.2

%W

orld

wid

e2.

4%10

4.4%

-3.4

%10

3.4%

Sect

or 2

is M

ore

Cap

ital-I

nten

sive

than

Sec

tor

1

Dom

estic

59.0

%37

.5%

-1.6

%94

.9%

Fore

ign

-57.

0% 6

7.0%

-1.3

%

8.7

%W

orld

wid

e2.

0%10

4.5%

-2.9

%10

3.7%

Sect

or 2

is L

ess C

apita

l-Int

ensi

ve th

an S

ecto

r 1

Dom

estic

90.6

%26

.7%

-3.5

%11

3.9%

Fore

ign

-87.

8% 7

8.2%

-0.5

% -1

0.1%

Wor

ldw

ide

2.8%

104.

9%-4

.0%

103.

7%

-59-

Tab

le 6

: E

cono

mic

Cha

nges

und

er a

Cor

pora

te In

com

e T

ax W

hen

Cap

ital I

nten

sitie

s Diff

er

Cap

ital I

nten

sity

in S

ecto

r Tw

o C

ompa

red

with

Sec

tor O

neSa

me

Inte

nsity

H

ighe

r Int

ensi

ty

Low

er In

tens

ityD

omes

ticFo

reig

nD

omes

ticFo

reig

n D

omes

ticFo

reig

n

Tax

rat

e (t

ax-e

xclu

sive

)

Cor

pora

te se

ctor

s6.

25%

0.00

%6.

25%

0.00

%6.

25%

0.00

%

Non

-cor

pora

te se

ctor

s0.

00%

0.00

%0.

00%

0.00

%0.

00%

0.00

%

Cap

ital s

tock

cha

nges

C

orpo

rate

sect

ors

-3.6

7%0.

85%

-3.4

6%0.

76%

-3.9

2%0.

96%

N

onco

rpor

ate

sect

ors

0.04

%0.

85%

0.25

%0.

76%

-0.2

1%0.

96%

To

tal (

wei

ghte

d by

cap

ital s

hare

s)-1

.98%

0.85

%-1

.77%

0.76

%-2

.23%

0.96

%

Inpu

t pri

ce c

hang

es

Cos

t of c

apita

l

C

orpo

rate

sect

ors

5.02

%-1

.16%

5.07

%-1

.11%

4.96

%-1

.21%

Non

corp

orat

e se

ctor

s-1

.16%

-1.1

6%-1

.11%

-1.1

1%-1

.21%

-1.2

1%

Wag

e ra

te-1

.10%

0.25

%-0

.69%

0.15

%-1

.57%

0.38

%

Land

rent

2.17

%0.

21%

1.55

%0.

34%

2.86

%0.

05%

Con

sum

er p

rice

cha

nges

C

orpo

rate

sect

ors

Sect

or 1

: Tr

adea

ble,

num

erai

re0.

00%

0.00

%0.

00%

0.00

%0.

00%

0.00

%

Se

ctor

2:

Trad

eabl

e, u

niqu

e0.

00%

0.00

%0.

46%

-0.1

0%-0

.52%

0.13

%

Se

ctor

3:

Non

trade

able

0.37

%-0

.08%

0.69

%-0

.15%

0.00

%0.

00%

N

on-c

orpo

rate

sect

ors

Sect

or 4

: Tr

adea

ble,

agr

icul

ture

0.00

%0.

00%

0.00

%0.

00%

0.00

%0.

00%

Sect

or 5

: N

ontra

deab

le-1

.13%

-0.5

0%-0

.91%

-0.5

2%-1

.38%

-0.4

6%

Tota

l (La

spey

res)

-0.1

1%-0

.16%

0.11

%-0

.18%

-0.3

5%-0

.13%

Priv

ate

inco

me

chan

ges (

real

)

Labo

r-0

.99%

0.41

%-0

.80%

0.33

%-1

.22%

0.51

%

Cap

ital

-1.0

5%-1

.00%

-1.2

2%-0

.93%

-0.8

7%-1

.09%

La

nd2.

27%

0.37

%1.

45%

0.52

%3.

21%

0.18

%

Tota

l (w

eigh

ted

by in

com

e sh

ares

)-0

.98%

0.00

%-0

.90%

-0.0

4%-1

.07%

0.04

%

Tax

reve

nue

(per

cent

age

of o

utpu

t)0.

94%

0.00

%0.

94%

0.00

%0.

94%

0.00

%N

atio

nal i

ncom

e (p

erce

ntag

e of

reve

nue)

-3.7

0%0.

00%

5.06

%-8

.75%

-13.

85%

10.1

3%W

orld

wid

e in

com

e (p

erce

ntag

e of

reve

nue)

-3.7

0%-3

.69%

-3.7

2%

-60-

Tab

le 7

: C

orpo

rate

Tax

Bur

den

Shar

es a

nd R

elat

ive

Eco

nom

y Si

ze,

Bur

dens

Mea

sure

d on

an

Agg

rega

te B

asis

a

Shar

e of

Bur

den

as a

Sha

re o

f Rev

enue

Wor

ld O

utpu

tLa

bor

Cap

ital

Land

Tota

l

Dom

estic

1%10

4.3%

2.6%

-2.1

%10

4.8%

Fore

ign

99%

-101

.9%

103.

2%-1

.3%

0.0%

Dom

estic

5%10

0.0%

6.8%

-2.1

%10

4.7%

Fore

ign

95%

-97.

6%98

.9%

-1.3

%0.

0%

Dom

estic

10%

94.7

%12

.0%

-2.2

%10

4.5%

Fore

ign

90%

-92.

3%93

.5%

-1.2

%0.

0%

Dom

estic

20%

84.1

%22

.3%

-2.3

%10

4.1%

Fore

ign

80%

-81.

7%82

.8%

-1.1

%0.

0%

Dom

estic

30%

73.7

%32

.5%

-2.5

%10

3.7%

Fore

ign

70%

-71.

3%72

.2%

-0.9

%0.

0%

Dom

estic

50%

52.9

%52

.7%

-2.7

%10

3.0%

Fore

ign

50%

-50.

5%51

.2%

-0.7

%0.

0%

Dom

estic

70%

32.5

%72

.7%

-3.0

%10

2.2%

Fore

ign

30%

-30.

1%30

.5%

-0.4

%0.

0%

Dom

estic

90%

12.3

%92

.4%

-3.2

%10

1.5%

Fore

ign

10%

-10.

0%10

.1%

-0.1

%0.

0%

Dom

estic

~100

%2.

3%10

2.2%

-3.3

%10

1.2%

Fore

ign

~0%

0.0%

0.0%

0.0%

0.0%

a Tot

al b

urde

ns d

ivid

ed b

y to

tal d

omes

tic re

venu

e

-61-

Tab

le 8

: C

orpo

rate

Tax

Bur

den

Shar

es a

nd R

elat

ive

Eco

nom

y Si

ze,

Bur

dens

Mea

sure

d on

a P

er C

apita

Bas

isa

Shar

e of

Per C

apita

Bur

den

Shar

esW

orld

Out

put

Labo

rC

apita

lLa

ndTo

tal

Dom

estic

1%10

4.3%

2.6%

-2.1

%10

4.8%

Fore

ign

99%

-1.0

%1.

0%0.

0%0.

0%

Dom

estic

5%10

0.0%

6.8%

-2.1

%10

4.7%

Fore

ign

95%

-5.1

%5.

2%-0

.1%

0.0%

Dom

estic

10%

94.7

%12

.0%

-2.2

%10

4.5%

Fore

ign

90%

-10.

3%10

.4%

-0.1

%0.

0%

Dom

estic

20%

84.1

%22

.3%

-2.3

%10

4.1%

Fore

ign

80%

-20.

4%20

.7%

-0.3

%0.

0%

Dom

estic

30%

73.7

%32

.5%

-2.5

%10

3.7%

Fore

ign

70%

-30.

5%30

.9%

-0.4

%0.

0%

Dom

estic

50%

52.9

%52

.7%

-2.7

%10

3.0%

Fore

ign

50%

-50.

5%51

.2%

-0.7

%0.

0%

Dom

estic

70%

32.5

%72

.7%

-3.0

%10

2.2%

Fore

ign

30%

-70.

3%71

.2%

-0.9

%0.

0%

Dom

estic

90%

12.3

%92

.4%

-3.2

%10

1.5%

Fore

ign

10%

-89.

7%90

.9%

-1.2

%0.

0%

Dom

estic

~100

%2.

3%10

2.2%

-3.3

%10

1.2%

Fore

ign

~0%

0.0%

0.0%

0.0%

0.0%

a Loc

al p

er c

apita

bur

dens

div

ided

by

dom

estic

per

cap

ita re

venu

e.

-62-

Tab

le A

1: S

hare

s Con

sist

ent w

ith H

arbe

rger

(199

5)

Shar

e of

Val

ue A

dded

in S

ecto

r

Shar

e of

Labo

rC

apita

lLa

ndO

utpu

tC

orpo

rate

sect

ors

Se

ctor

s 1 a

nd 2

: Tr

adea

ble

71%

29%

…25

%

Sect

or 3

: N

ontra

deab

le82

%18

%…

40%

Non

-cor

pora

te se

ctor

s

Sect

or 4

: Tr

adea

ble,

agr

icul

ture

49%

17%

34%

3%

Sect

or 5

: N

ontra

deab

le57

%43

% …

32%

Tota

l70

%29

%1%

100%

Dom

estic

eco

nom

y's s

hare

of w

orld

out

put

37.5

%D

omes

tic o

wne

rshi

p sh

are

of w

orld

cap

ital

37.5

%Pa

rtial

ela

stic

ity o

f sub

stitu

tion,

cap

ital a

nd la

bor

0.6

Sour

ces:

Bas

ed o

n H

arbe

rger

(199

5) a

nd G

rave

lle a

nd S

met

ters

(200

6).

-63-

Tab

le A

2: R

econ

cilia

tion

with

Har

berg

er (1

995)

Sour

ces

Bur

den

as a

Sha

re o

f Rev

enue

and

Use

sLa

bor

Cap

ital

Land

Con

sum

ers

Tota

l

Smal

l Eco

nom

y, In

finite

sim

al T

ax R

ate,

Sha

res f

rom

Tab

le A

1

Dom

estic

sepa

rate

200.

0%0.

0%-4

.2%

-95.

8%10

0.0%

Fore

ign

sepa

rate

-129

.3%

129.

3%0.

4%-0

.4%

0.0%

Dom

estic

com

bine

d13

2.9%

-27.

8%-5

.1%

…10

0.0%

Fore

ign

com

bine

d-1

29.6

%12

9.2%

0.4%

…0.

0%

Lar

ge E

cono

my,

6.2

5 Pe

rcen

t Tax

Rat

e, S

hare

s fro

m T

able

A1

Dom

estic

sepa

rate

156.

4%50

.0%

-4.1

%-9

9.1%

103.

3%Fo

reig

nse

para

te-8

3.4%

83.4

%0.

3%-0

.3%

0.0%

Dom

estic

com

bine

d87

.1%

21.3

%-5

.1%

…10

3.3%

Fore

ign

com

bine

d-8

3.6%

83.3

%0.

3%…

0.0%

Lar

ge E

cono

my,

6.2

5 Pe

rcen

t Tax

Rat

e, S

hare

s fro

m T

able

1

Dom

estic

sepa

rate

81.6

%35

.8%

-2.3

%-1

1.3%

103.

7%Fo

reig

nse

para

te-4

4.1%

83.5

%-0

.5%

-38.

9%0.

0%

Dom

estic

com

bine

d73

.7%

32.5

%-2

.5%

…10

3.7%

Fore

ign

com

bine

d-7

1.3%

72.2

%-0

.9%

…0.

0%

-64-

-65-

Ref

eren

ces

Aue

rbac

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lan

J. (2

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ho B

ears

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na-M

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orio

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uzzl

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(The

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Birk

beck

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orki

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or B

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ount

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espo

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suri

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x Bu

rden

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cono

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abor

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r Im

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atio

ns fo

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uman

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ourc

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4 (F

all):

pp.

518

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.

Har

berg

er, A

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006)

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orpo

rate

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Inci

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e: R

efle

ctio

ns o

n W

hat i

s Kno

wn,

Unk

now

nan

d U

nkno

wab

le.”

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eo, U

nive

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alifo

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berg

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rnol

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e A

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orpo

ratio

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x In

cide

nce:

Insi

ghts

into

the

Ope

n-Ec

onom

y C

ase.

” Ta

x Po

licy

and

Econ

omic

Gro

wth

, Was

hing

ton

D.C

.: A

mer

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ncil

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l For

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berg

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d. (1

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e In

cide

nce

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x.”

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neth

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com

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oder

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Mim

eo, H

oove

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stitu

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).

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ce a

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aure

nce

H. S

umm

ers.

(198

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licEc

onom

ics,

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uerb

ach

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atio

nale

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Gru

bert.

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pen

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t-Non

resi

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atur

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Fac

tor T

ax S

yste

ms i

n a

Goo

dsM

obile

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Imm

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odel

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l Eco

nom

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ol. 8

8: p

p. 1

177-

1202

.

Alan J. Auerbach

Alan J. Auerbach is the Robert D. Burch Professor of Economics and Law, Director of

the Burch Center for Tax Policy and Public Finance, and former Chair of the Economics

Department at the University of California, Berkeley. He is also a Research Associate

of the National Bureau of Economic Research and previously taught at Harvard and the

University of Pennsylvania, where he also served as Economics Department Chair.

Professor Auerbach was Deputy Chief of Staff of the U.S. Joint Committee on Taxation

in 1992 and has been a consultant to several government agencies and institutions in

the United States and abroad. A former Vice President of the American Economic

Association, he was Editor of that association’s Journal of Economic Perspectives and

is now Editor of its new American Economic Journal: Economic Policy. Professor

Auerbach is a Fellow of the Econometric Society and of the American Academy of Arts

and Sciences.

Robert Carroll Deputy Assistant Secretary for Tax Analysis

Robert Carroll is the Deputy Assistant Secretary (Tax Analysis) in the Office of Tax Policy at the Department of the Treasury. He joined the Treasury Department in December of 2003. At Treasury, Dr. Carroll provides economic advice and analysis for the Office of Tax Policy with regard to all aspects of the economics of Federal taxation. He is responsible for the development, analysis and implementation of tax policies and programs. Dr. Carroll was most recently a Visiting Scholar in the Tax Analysis Division of the Congressional Budget Office, where he provided analyses of investment incentives, tax reform, income dynamics, and the distributional effects of taxes. From July 2002 to June 2003 he served as a Senior Economist (Public Finance) with the President’s Council of Economic Advisers. He was responsible for providing economic analysis and briefings on a variety of public finance issues, including the President’s Jobs & Growth Act, tax reform, tax simplification, international taxation, and retirement security. Prior to the CEA, he was a Financial Economist with the Treasury Department’s Office of Tax Analysis, Revenue Estimating Division from 1996 to 2002, a position he also held from 1990 to 1995. He was responsible for preparing economic analyses of Administration and Congressional proposals. He worked for Ernst & Young, LLP, from 1995 to 1996, as Manager, Policy and Regulatory Economics. He holds a Ph.D. and a Masters in Economics from Syracuse University and a B.S. in Economics from State University of New York.

Mihir A. Desai

Mihir A. Desai is an Assistant Professor of Business Administration in the Finance and Entrepreneurial Management areas of Harvard Business School. Professor Desai's research focuses on international corporate and public finance. Within international corporate finance, he has investigated the determinants of ownership shares and capital structure choice for multinational affiliates, the advantages afforded by the internal capital markets of multinationals, the determinants of dividend remittance policy for multinationals, and the interaction between domestic and international investment decisions by firms. Within international public finance, his research has emphasized the effects of taxation on the export, financing, organizational form, and investment decisions of firms facing multiple tax regimes. Additionally, his work has also addressed the dynamics of international tax competition, the interactions of inflation and taxation in an open economy and the policy choices available to developing countries facing the loss of talent. He is a Faculty Research Fellow in the National Bureau of Economic Research's Public Economics Program, and his research has been cited in The Economist, BusinessWeek, and The New York Times.

Currently, Professor Desai teaches First-Year Finance and has participated in several executive education programs at HBS. Additionally, he co-teaches Public Economics (EC 1410) at Harvard College. He received the Student Association Award for teaching excellence from the HBS Class of 2001. He received his Ph.D. in political economy with a concentration in corporate finance and public finance from Harvard University; his MBA as a Baker Scholar from Harvard Business School; and a bachelors degree in history and economics with honors and distinction from Brown University. In 1994, he was a Fulbright Scholar to India. His professional experiences include working at CS First Boston, McKinsey & Co., and advising a number of startup firms.

http://www.nber.org/

http://www.nber.org/

http://www.college.harvard.edu/

http://www.harvard.edu/

http://www.brown.edu/

C. Fritz Foley Associate Professor of Business Administration

Fritz Foley is an Assistant Professor in the Finance area at Harvard Business School, where he currently teaches the required course in the first-year MBA program. He is also a Faculty Research Fellow in the National Bureau of Economic Research’s International Trade and Investment Program.

Professor Foley’s research focuses on international corporate finance with a particular emphasis on the activities of multinational firms. He has investigated the use of international joint ventures, the determinants of multinational affiliate capital structure and dividend repatriations, the advantages associated with internal capital and labor markets, the impact of capital controls on multinationals, and the effects of stock market valuations on foreign direct investment. His recent work on how intellectual property rights influence international technological transfers has been funded by grants from the National Science Foundation and the World Bank. His academic articles have appeared in several journals including The Journal of Finance, the Journal of Financial Economics, the Journal of Public Economics, the National Tax Journal, the Review of Financial Studies, and the Quarterly Journal of Economics.

Prior to joining HBS, Professor Foley taught at the University of Michigan Business School. He received a Ph. D. in Business Economics from Harvard University and a B.A. in Ethics, Politics, and Economics from Yale University. Professor Foley has also worked as a strategy consultant at Monitor Company and conducted research on multinational firms in the apparel export sector as a Fulbright Scholar in Sri Lanka.

Phone: 617 495-6375 Fax: 617 495-7659

William Gale

William Gale is vice president and director of the Economic Studies Program at the Brookings Institution and the Arjay and Frances Miller Chair in Federal Economic Policy. He conducts research on a variety of economic issues, focusing particularly on tax policy, fiscal policy, pensions and saving behavior. He is co-director of the Tax Policy Center, a joint venture of the Brookings Institution and the Urban Institute. He is also director of the Retirement Security Project, an initiative supported by the Pew Charitable Trusts, in partnership with Georgetown University’s Public Policy Institute and Brookings. Gale attended Duke University and the London School of Economics and received his Ph.D. from Stanford University in 1987. Prior to joining Brookings in 1992, he was an assistant professor in the Department of Economics at the University of California, Los Angeles, and a senior staff economist for the Council of Economic Advisers under President George H.W. Bush. He is the co-author or co-editor of several books, including Taxing the Future: Fiscal Policy in the Bush Administration (Brookings, forthcoming); Aging Gracefully: Ideas to Improve Retirement Security in America (Century Foundation, 2006); The Evolving Pension System: Trends, Effects, and Proposals for Reform (Brookings, 2005); Private Pensions and Public Policy (Brookings, 2004); Rethinking Estate and Gift Taxation (Brookings, 2001), and Economic Effects of Fundamental Tax Reform (Brookings, 1996).

Michael J. Graetz Michael J. Graetz is the Justus S. Hotchkiss Professor of Law at Yale University. Before becoming a professor at Yale in 1983, he was a professor of law at the University of Virginia and the University of Southern California law schools and Professor of Law and Social Sciences at the California Institute of Technology. His publications on the subject of Federal taxation include a leading law school text and more than 50 articles on a wide range of tax, health policy, social insurance, and tax compliance issues in books and scholarly journals. His most recent books, True Security: Rethinking Social Insurance and The U.S. Income Tax: What It Is, How It Got That Way and Where We Go From Here, were published in 1999 by Yale University Press and W. W. Norton & Co, respectively. He is the author of The “Original Intent” of U.S. International Taxation, 46 Duke L.J. 1021 (1997) and Taxing International Income: Inadequate Principles, Outdated Concepts and Unsatisfactory Policies (forthcoming Tax L.Rev. 2001). During January-June 1992, Michael Graetz served as Assistant to the Secretary and Special Counsel at the Treasury Department. In 1990 and 1991, he served as Treasury Deputy Assistant Secretary for Tax Policy. Professor Graetz has been a John Simon Guggenheim Memorial Fellow and he received an award from Esquire Magazine for courses and work in connection with provision of shelter for the homeless. He served on the Commissioner's Advisory Group of the Internal Revenue Service. He served previously in the Treasury Department in the Office of Tax Legislative Counsel during 1969-1972. Professor Graetz is a graduate of Emory University (B.B.A. 1966) and the University of Virginia Law School (J.D. 1969). A native of Atlanta, Georgia, Michael Graetz is married to Brett Dignam and has five children.

Kevin A. Hassett

Kevin A. Hassett is the director of economic policy studies and a resident scholar at AEI. He is also a weekly columnist for Bloomberg. Before joining AEI, Mr. Hassett was a senior economist at the Board of Governors of the Federal Reserve System and an associate professor of economics and finance at the Graduate School of Business of Columbia University. He was an economic adviser to the George W. Bush campaign in the 2004 presidential election, and was the chief economic adviser to Senator John McCain (R-Ariz.) during the 2000 primaries. He has also served as a policy consultant to the U.S. Department of the Treasury during both the former Bush and Clinton administrations. Mr. Hassett is a member of the Joint Committee on Taxation’s Dynamic Scoring Advisory Panel. He is the author, coauthor or editor of six books on economics and economic policy, including the AEI book on tax reform, Toward Fundamental Tax Reform. He has published scholarly articles in the American Economic Review, the Economic Journal, the Quarterly Journal of Economics, the Review of Economics and Statistics, the Journal of Public Economics, and many other professional journals. His popular writings have been published in the Wall Street Journal, the Atlantic Monthly, USA Today, the Washington Post, and numerous other outlets. His economic commentaries are regularly aired on radio and television, including recent appearances on the Today Show, CBS’s Morning Show, Newshour with Jim Lehrer, Hardball, Moneyline, and Power Lunch.

James R. Hines Jr.

James Hines teaches at the University of Michigan, where he is Richard A. Musgrave Collegiate Professor of Economics in the department of economics and Professor of Law in the law school. He also serves as Research Director of the business school’s Office of Tax Policy Research. His research concerns various aspects of taxation. He holds a B.A. and M.A. from Yale University and a Ph.D. from Harvard, all in economics. He taught at Princeton and Harvard prior to moving to Michigan in 1997, and has held visiting appointments at Columbia, the London School of Economics, and Harvard Law School. He is a research associate of the National Bureau of Economic Research, research director of the International Tax Policy Forum, co-editor of the American Economic Association’s Journal of Economic Perspectives, and once, long ago, was an economist in the United States Department of Commerce.

R. Glenn Hubbard

Glenn Hubbard was named dean of Columbia Business School on July 1, 2004. A Columbia faculty member since 1988, he is also the Russell L. Carson Professor of Finance and Economics. Professor Hubbard received his BA and BS degrees summa cum laude from the University of Central Florida, where he received the National Society of Professional Engineers Award. He also holds AM and PhD degrees in economics from Harvard University. After graduating from Harvard, Professor Hubbard began his teaching career at Northwestern University, moving to Columbia in 1988. He has been a visiting professor at Harvard’s Kennedy School of Government and Harvard Business School as well as the University of Chicago. Professor Hubbard also held the John M. Olin Fellowship at the National Bureau of Economic Research.

In addition to writing more than 90 scholarly articles in economics and finance, Professor Hubbard is the author of a leading textbook on money and financial markets. His commentaries have appeared in Business Week, the Wall Street Journal, the New York Times, the Financial Times, the Washington Post, Nikkei and the Daily Yomiuri, as well as on television (on PBS’s Nightly Business Report) and radio (on NPR’s Marketplace).

In government, Professor Hubbard served as deputy assistant secretary of the U.S. Treasury Department for Tax Policy from 1991 to –1993. From February 2001 until March 2003, he was chairman of the U.S. Council of Economic Advisers under President George W. Bush. While serving as CEA chairman, he also chaired the Economic Policy Committee of the OECD. In the corporate sector, he is currently a director of ADP, Dex Media, KKR Financial Corporation, and Ripplewood Holdings.

Professor Hubbard is married to Constance Pond Hubbard. They live in Manhattan with their two sons.

William Randolph William Randolph is an economist and Senior Analyst for the Tax Analysis Division of the Congressional Budget Office. He served previously as the Director for International Taxation in the U.S. Treasury’s Office of Tax Analysis. Dr. Randolph has worked on a wide variety of domestic and international tax policy issues for the U.S. government and has published numerous journal articles in public finance and econometrics.

John M. Samuels

John Samuels is GE’s Vice President and Senior Counsel for Tax Policy and Planning. He is responsible for GE’s worldwide Tax Organization and for the Company’s global tax planning and tax compliance operations. He is a member of GE’s Corporate Executive Council, the GE Capital Corporation Board of Directors and the GE Pension Board. Prior to joining GE in 1988, he was a partner in the law firm of Dewey, Ballantine in Washington, D.C. and New York City. From 1976 to 1981 Mr. Samuels served as the Deputy Tax Legislative Counsel and Tax Legislative Counsel of the U.S. Department of Treasury in Washington, D.C. Mr. Samuels is the Chairman of the International Tax Policy Forum, a Fellow of the American College of Tax Counsel, a Trustee of the American Tax Policy Institute and a member of The Business Roundtable Tax Coordinating Committee. He is a member of the University of Chicago Law School Visiting Committee, was an adjunct professor of taxation of NYU Law School (1975 to 1986), and a Visiting Lecturer at Yale Law School (1997-2006). Mr. Samuels is a graduate of Vanderbilt University (1966) and the University of Chicago Law School (1969), and received an LLM in taxation (1976) from NYU Law School.

Lawrence H. Summers

Lawrence H. Summers is Charles W. Eliot University Professor at Harvard University. He served as the 27th president of Harvard University from July 2001 until June 2006. From 1999 to 2001 he served as the U.S. Secretary of the Treasury following his earlier service as Deputy and Under Secretary of the Treasury and as Chief Economist of the World Bank. Prior to his service in Washington, Summers was a professor of economics at Harvard and MIT. His research contributions were recognized when he received the John Bates Clark Medal, given every two years to the outstanding American economist under the age of 40, and when he was the first social scientist to receive the National Science Foundation's Alan T. Waterman Award for outstanding scientific achievement. He is a member of the National Academy of Science. He received his BS from MIT and his PhD in economics from Harvard. Among his other activities, Lawrence Summers writes a monthly column for the Financial Times, coedits the Brookings Papers on Economic Activity, and serves as a managing director of D. E. Shaw, a major alternative investment firm. He also serves on a number of not-for-profit and for-profit boards.

Eric Toder Eric Toder is a Senior Fellow at the Urban Institute and Urban-Brookings Tax Policy Center, where he specializes in retirement policy and tax policy issues. Between 2001 and 2004, he served as Director, National Headquarters Office of Research, at the Internal Revenue Service. Dr. Toder previously held a number of positions in tax policy offices in the U.S. government and overseas, including service as Deputy Assistant Secretary for Tax Analysis at the U.S. Treasury Department, Deputy Assistant Director for Tax Analysis at the Congressional Budget Office, and consultant to the New Zealand Treasury. He received his Ph.D. in economics from the University of Rochester in 1971. .

Alan D. Viard

Alan D. Viard is a resident scholar at the Amcrican Enterprise Institute for Public Policy Research. Prior to joining AEI, Alan Viard was a senior economist at the Federal Reserve Bank of Dallas and an assistant professor of economics at Ohio Stale Universjty. He has also worked for the Treasury Department's Office of Tax Analysis, the White House's Council of Economic Advisers, and the Joint Committee on Taxation of the U.S. Congress.

Who Pays the Corporate Tax in an Open Economy? · Agilent Technologies, Inc. Altria Group, Inc....

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