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The Importance of Measurement Error in the Cost of Capital

28 Pages Posted: 5 May 2000  

Austan Goolsbee

University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER)

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Date Written: February 2000

Abstract

Conventional estimates of the impact of taxes on investment may be seriously biased by measurement error in the cost of capital. The existence and size of such error, however, has not been documented. Using panel data on different types of capital equipment, this paper provides direct evidence of measurement error in the tax component of the cost of capital, accounting for about 20 percent of the tax term's variance. Correcting for the error with IV estimation shows that taxes significantly affect both prices and investment and that conventional results may be off by as much as a factor of four.

Suggested Citation

Goolsbee, Austan, The Importance of Measurement Error in the Cost of Capital (February 2000). NBER Working Paper No. w7558. Available at SSRN: https://ssrn.com/abstract=217848

Austan Goolsbee (Contact Author)

University of Chicago - Booth School of Business ( email )

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National Bureau of Economic Research (NBER)

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