Fiscal Policies and Asset Prices
Mariano Massimiliano Croce
University of North Carolina Kenan-Flagler Business School
London Business School
Thien Tung Nguyen
Ohio State University (OSU) - Department of Finance
Duke University - The Fuqua School of Business
February 15, 2012
Review of Financial Studies, Forthcoming
The surge in public debt triggered by the financial crisis has raised uncertainty about future tax pressure and economic activity. We examine the asset pricing effects of fiscal policies in a production-based general equilibrium model in which taxation affects corporate decisions by: i) distorting profits and investment; ii) reducing the cost of debt through a tax shield; and iii) depressing productivity growth. In settings with recursive preferences, these three tax-based channels generate sizable risk premia making tax uncertainty a first order concern. We document further that corporate tax smoothing can substantially alter the effects of public expenditure shocks.
Number of Pages in PDF File: 47
Keywords: cost of equity, corporate tax uncertainty, tax smoothing
JEL Classification: G12, E62
Date posted: June 15, 2011 ; Last revised: October 3, 2012
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