Trade Estimator in Modified Gravity: Corporate Tax Rates and Trade in OECD Countries

Abstract

To study the potentially distortionary impact of divergent corporate income tax rates on international trade flows, we use an augmented empirical specification of the gravity model. Incorporating a corporate income tax rate trade barrier measure into a modified gravity model, we capture the impact of tax rates via the price mechanism impact on trade. Holding other factors constant in a gravity model, one should theoretically expect differential corporate income tax rates to impact bilateral trade flows. Low (high) tax states have an implied price (dis)advantage relative to trade partners. Using corporate income tax differential trade barrier measures between countries, we find that bilateral corporate income tax rates’ wedges do not impact bilateral international trade flows. Our empirical results are robust to alternative proxies for tax differentials and exclusion restrictions based on trade regions and time periods.

Keywords: gravity, asymmetric barriers, corporate income tax

JEL Classification: F14, H25, H26