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Can Corporate Income Tax Cuts Stimulate Innovation?

Published online by Cambridge University Press:  22 February 2019

Julian Atanassov  and
Xiaoding Liu
Julian Atanassov
Affiliation:
Atanassov, julian@unl.edu, University of Nebraska
Xiaoding Liu*
Affiliation:
Liu, xliu@mays.tamu.edu, Texas A&M University
*
Liu (corresponding author), xliu@mays.tamu.edu
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Abstract

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We hypothesize that corporate income taxes distort firms’ incentives to innovate by reducing their pledgeable income. Using a differences-in-differences methodology, we document that large corporate income tax cuts boost corporate innovation. We find a similar but opposite effect for tax increases. Most of the change in innovation occurs 2 or more years after the tax change, and there’s no effect before the tax change. Exploring the mechanisms, we show that tax cuts have a stronger impact on innovation for firms with weaker governance, greater financial constraints, fewer tangible assets, smaller patent stock, and a greater degree of tax avoidance.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 55 , Issue 5 , August 2020 , pp. 1415 - 1465
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2019

Footnotes

We thank an anonymous referee, James Chyz, Jon Garfinkel, Austan Goolsbee, Dave Gunther, Michelle Hanlon, Jarrad Harford (the editor), Glenn Hubbard, Linda Krull, Alexander Ljungqvist, Neviana Petkova, Jay Ritter, Ryan Wilson, Brian Wolfe, Alminas Zaldokas, and Stefan Zeume; participants at the 2014 University of North Carolina (UNC) Tax Symposium, the 2014 Tokyo Asian Financial Management Association (FMA) Conference, the 2014 National Bureau of Economic Research (NBER) Innovation Summer Institute, the 2014 Pacific Northwest Finance Conference, the 2015 Eighth Annual Searle Center Conference on Innovation Economics, the 2015 Entrepreneurial Finance and Innovation around the World Conference, the 2016 China International Finance Conference, the 2017 NBER Economic Effects of State Business Taxation Conference, the 2018 European Finance Conference; and seminar participants at DePaul University, Tulane University, the University of Oregon, the University of Tennessee, the University of Nebraska, the University of Kansas, the University of Florida, Northeastern University, the University of Arizona, the University of California, Riverside, the University of Iowa, Iowa State University, the U.S. Department of the Treasury, the University of New South Wales, and the University of Melbourne for their useful comments and suggestions. We also thank the Innovation Research Center at Mays Business School for their support.

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