Heterogeneous Responses to Corporate Marginal Tax Rates: Evidence from Small and Large Firms
59 Pages Posted: 9 Jun 2019 Last revised: 20 Sep 2023
Date Written: July 8, 2019
Do small and large firms respond differently to tax cuts? Using new narrative measures of the exogenous variation in corporate marginal tax rates and a unique dataset of U.S. manufacturing firms, we find that the investment of large firms is more sensitive to a marginal tax cut than that of small firms. Furthermore, we show that small firms finance their new investments almost entirely through debt, whereas large firms use both cash and debt. Following a tax cut, the tax advantage of debt financing falls relative to cash financing. This substitution effect is more pronounced for large firms and induces them to rely on cash financing to a larger extent than small firms.
Keywords: Narrative Method, Corporate Marginal Tax Rates, Small and Large Firms, Real and Financial Decisions
JEL Classification: C32, C53, E62, G32, H32
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