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http://ssrn.com/abstract=892129
 
 

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Taxes and Growth in a Financially Underdeveloped Country: Evidence from the Chilean Investment Boom


Chang-Tai Hsieh


University of Chicago - Booth School of Business; University of California, Berkeley - Department of Economics; National Bureau of Economic Research (NBER)

Jonathan A. Parker


Massachusetts Institute of Technology (MIT) - Sloan School of Management; National Bureau of Economic Research (NBER)

March 2006

NBER Working Paper No. w12104

Abstract:     
This paper argues that taxation of retained profits is particularly distortionary in an economy with good growth prospects and poorly developed financial markets because it primarily reduces the investment of financially constrained firms, investment that has marginal product greater than the after-tax market real interest rate. Contrarily, taxes on distributed profits or capital gains primarily reduce the investment of financially unconstrained firms. Chile experienced a banking crisis over the period from 1982 to 1986 and in 1984 reduced its tax rate on retained profits from 50 percent to 10 percent. We show that, consistent with our theory, there was a large increase in aggregate investment after the reform which was entirely funded by an increase in retained profits. Further, we show that investment grew by more in industries that depend more on external financing, according to the Rajan and Zingales (1998) measure. Finally, we present some weak evidence from comparisons of investment rates across firms for several different measures of their likelihood of being financially constrained.

Number of Pages in PDF File: 58

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Date posted: May 14, 2006  

Suggested Citation

Hsieh, Chang-Tai and Parker, Jonathan A., Taxes and Growth in a Financially Underdeveloped Country: Evidence from the Chilean Investment Boom (March 2006). NBER Working Paper No. w12104. Available at SSRN: http://ssrn.com/abstract=892129

Contact Information

Chang-Tai Hsieh (Contact Author)
University of Chicago - Booth School of Business ( email )
5807 S. Woodlawn Avenue
Chicago, IL 60637
United States
University of California, Berkeley - Department of Economics ( email )
549 Evans Hall #3880
Berkeley, CA 94720-3880
United States
National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Jonathan A. Parker
Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )
E62-416
Cambridge, MA
United States
617-253-7218 (Phone)
National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
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