Who Bears the Burden of the Corporate Tax in the Open Economy?

Abstract

This paper investigates the long-run incidence of the corporate income tax in an open-economy model calibrated with two economies: the United States and a larger mirror economy representing the rest of the world. Imperfect substitutability of domestic and foreign products plays a key role in limiting - often eliminating - the incidence borne by domestic labor. We reach two novel conclusions. First, contrary to conventional wisdom, our analysis reveals that most of the long-run incidence of the corporate income tax is not borne by domestic labor. Nor is much of it borne by landowners. This finding is usually true even at an implausibly large portfolio substitution elasticity. The incidence is typically borne by domestic capital, as in the original Harberger (1962) closed-economy model. Second, for those parameter values in which the incidence is not borne mostly by domestic capital, interestingly, most of the incidence is exported. The exportation of the incidence of the corporate income tax, which has received little or no attention in the previous literature, might motivate tax coordination between countries. These results are robust to a range of parameter values and model assumptions. Our model is also compatible with several empirical rigidities.