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What Is Fiscal Policy? Fiscal policy uses government spending and tax policies to influence macroeconomic conditions, including aggregate demand, employment, and inflation. Understanding Taxes A mandatory contribution levied on corporations or individuals by a level of government to finance government activities and public services. How Multipliers Impact Economics A multiplier refers to an economic input that amplifies the effect of some other variable.
What Are Government Purchases? Economic Note prepared by Gabriel A. Although it is evident that this slump in tax revenue is due to slower activity, this can no longer be explained by the crisis context. Indeed, most foreign trade partners have recovered more strongly than France, and French exports are now at higher levels than before the crisis.
But the decline is much sharper than the anticipated rebates. This suggests that the broadening of the tax base expected under the rebate programme is not really occurring and that corporate taxation remains a problem. Where corporate taxation is concerned, what often comes to mind is the However, this is not the only tax that entrepreneurs consider when deciding whether to create a company, expand an existing firm or invest in a particular country.
Indeed, corporate taxation comprises all taxes paid by a business. In addition to the corporate income tax paid on earnings, it also includes employer-borne social security contributions paid on payroll, real estate taxes and many other minor taxes. Each one of these taxes may have different treatments, interpretations, and allowances that add up to greater tax complexity. Corporate taxation also includes taxes indirectly borne by businesses since they affect shareholders and creditors who provide financing.
These include taxes on dividends, capital gains and business-related interest. Moreover, some companies face surtaxes depending on their area of activity or product type, or simply because they exceed a certain turnover level. Complex and excessive taxation deters foreign investors, drives out domestic investors, curbs entrepreneurship, and results in deadweight losses due to tax compliance and tax avoidance costs.
Friendly taxation, meanwhile, broadens the tax base by attracting foreign investment, encouraging domestic investment and stimulating entrepreneurship, thus entailing greater tax compliance. Slower activity in France is most probably related to the corporate tax burden imposed on French businesses during tenuous times.
The introduction of the CICE does not counter this shock because it involves only firms that are actively increasing their workforces, in other words growing. A company facing hard times can hardly think about hiring people but has to pay its employer-borne social security contributions at the full rate. Moreover, from to , companies have faced an exceptional surtax of Investors who had their incomes tax capped at Taxation has different impacts depending on the form it assumes.
Corporate and shareholder taxes reduce the capital funds available to make investments and build a greater and more productive structure. This means that growth in the volume of productivity-boosting equipment, facilities and knowledge resulting in enhanced purchasing power for investors and employees alike — that is, capital accumulation in the economy — decelerates.
The fact is, firms are the source of most income circulating in any economy. Profits are a sign that a firm generated more wealth than is used in production. This entails a potential increase in income for various agents.
Shareholders obtain dividends, and employees may see pay rises in the form of profit-sharing. Any profit that is retained as corporate savings implies future investment that generates new income flows to current and future employees.
Taxing corporate income is therefore equivalent to reducing all these income flows. Recent studies point out how harmful the corporate income tax can be to economic growth. But if it is already high, as it is in France, shifting the burden would be a problem. Producers facing low price sensitivity in demand could more easily shift the tax to consumers. But this leaves consumers with less income to spend on other products and reduces their ability to save.
Therefore, other producers are indirectly hurt by taxes on these products, and the economy in general suffers from the reduced savings as investment decelerates. On the other hand, producers coping with price-sensitive demand may have to absorb the tax hike in order to avoid a drop in sales, cutting their margins rather than shift the tax.
This amounts to taxing production instead of consumption, hurting reinvestment. In the end, shifting the tax burden to consumption ultimately impacts capital accumulation. In addition to the distortions it causes to economic growth, corporate taxation influences foreign direct investment FDI decisions. It creates a wedge between pre- and post-tax returns on FDI. The greater the wedge, the lower the incentive to undertake FDI in a given country.
Other considerations such as market openness, labour costs and regulatory hurdles are also taken into account. However, these advantages can rapidly be corroded if the wedge on FDI returns is too great, favouring low-tax countries to the detriment of high-tax jurisdictions. Flows are five times lower than in the previous decade. Addressing this issue requires data on each firm's tax exposure to each state. Standard data sources such as Compustat do not provide the necessary geographic breakdown.
So, in a number of papers, I have used establishment-level data from the National Establishment Time Series NETS database, which provides information on the location of practically every subsidiary, branch, or plant for practically every firm in the U. While not perfect, these data can be used to approximate nexus apportionment weights. For the year period from to , Michael Smolyansky and I identify corporate income tax increases in 45 states and the District of Columbia and corporate income tax cuts in 35 states, or roughly one tax change per decade per state.
A quarter of the cuts and two-fifths of the increases measure one percentage point or more in absolute value. The ratio of tax increases to tax cuts has fallen from 4. With few exceptions, such as the Rust Belt states in the s, tax changes show no obvious geographic clustering.
States do not change taxes randomly. Heider and I investigate the political economy surrounding each change affecting at least publicly listed firms since and estimate the empirical determinants of state tax changes over the period from to Perhaps the most interesting predictor of the likelihood and magnitude of state tax changes is how the state's current tax rate compares to that of the states surrounding it, with tax increases being substantially less likely, and smaller, if the state's current rate is high relative to that of its neighbors, and tax cuts being more likely, and larger, if its current rate is relatively low.
Tax increases are more likely when the state budget is in deficit, consistent with widespread balanced-budget rules, while tax cuts are more likely when there is a budget surplus. Taxes are more likely to be cut under Republican than Democratic governors, and by larger amounts. Using news reports and a review of the legislative record, we find no evidence that state tax changes coincide systematically with other policy changes that plausibly affect corporate behavior independently.
One of the oldest questions in corporate finance is whether taxes affect firms' capital structure choices. It has long been recognized that debt confers a tax benefit on firms when the tax code allows interest payments to be deducted from taxable income. Some theories of capital structure hold that firms trade off this tax benefit of debt against the cost of the increased risk of default that accompanies greater use of debt.
While the tax advantage of debt has been a cornerstone of corporate finance since at least the pioneering work of Franco Modigliani and Merton Miller, 3 its empirical relevance continues to be debated.
Opinions in the literature range from irrelevance to the belief that taxes are the key driver of debt policy. Heider and I use the state tax changes to quantify the tax sensitivity of firms' debt policies.
Our results suggest that taxes are an important determinant of firms' capital structure choices in the U. We find that firms increase the ratio of long-term debt to total assets by around 40 basis points for every percentage point increase in the tax rate. Total assets are unchanged, implying that firms swap debt for equity when tax rates rise.
Interestingly, firms do not reduce their leverage when tax rates fall. This asymmetry is inconsistent with textbook or "static" tradeoff models and favors dynamic tradeoff models. In dynamic models, shareholders have little incentive to reduce the firm's use of debt.
Doing so would reduce the value of shareholders' option to default, benefiting debtholders at shareholders' expense. Liandong Zhang, Luo Zuo, and I focus on a different corporate choice: how much risk to take. Prominent examples are investments in physical assets, production processes, and new products or technologies.
As has been recognized since at least the s, income taxes affect risk-taking because they induce an asymmetry in a firm's payoffs. To see how, consider a firm that has access to two projects, A and B, with two equally likely outcomes, "good" and "bad. Project risk is idiosyncratic and hence diversifiable.
If the tax rate increases from zero to 30 percent, the expected after-tax profit of each project falls, but it falls by more for the risky project B than for the safe project A. The reason is that the government shares in the firm's profit but not—absent full tax loss offsets—in the firm's loss. Given this asymmetry, a risk-neutral firm will prefer the safe project to the risky project as the tax rate increases.
Again using the state tax changes, we estimate the tax sensitivity of various firm-level measures of risk-taking, such as the volatility of quarterly earnings.
We find that firms reduce earnings volatility by an average of 2. This effect is estimated over the three years following a tax increase and becomes stronger when we give firms more time to adjust their risk profiles. The main way in which firms reduce risk is to shorten their operating cycles, which puts less capital at risk, in particular in the form of inventories. As in the case of the tax sensitivity of debt, we find evidence of asymmetry: While firms reduce risk significantly when tax rates increase, they do not, on average, increase risk when tax rates fall.
One reason to expect firms not to increase risk in response to a tax cut is that their creditors, whose claims would decline in value if risk increased, constrain their ability to do so, for example through the use of debt covenants.
Consistent with this prediction, we show that firms with low financial leverage, which presumably face fewer constraints, increase risk in response to tax cuts, whereas high-leverage firms, which presumably face more constraints, do not. Smolyansky and I investigate how firm employment and wages respond to tax changes.
Firm-level data on employment and wages are not systematically available, even for publicly listed firms, so instead we use county-level data from the U. Bureau of Economic Analysis. To disentangle the effect of corporate taxes from business cycle effects that may coincide with, or potentially even drive, state tax changes, we compare contiguous counties straddling state borders.
The idea is to exploit a spatial policy discontinuity when forming control groups.
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