Brand New Top Level Research on Incidence of Corporate Tax Rate Cuts

This comes out in the February issue of the journal American Economic Review. AER is the top journal in our field. The February issue isn’t even out in print yet; if you’re a subscriber you get early access over the internet, so I got this in my email.

The article is entitled “Do Higher Corporate Taxes Reduce Wages? Micro Evidence from Germany”, and it’s by Clemens Fuest, Andreas Peichl and Sebastian Siegloch. The final version is locked behind a paywall, but here’s a link to a recent pre-publication working paper. I am not recommending that you read it, but you might browse it a bit to see what top level work looks like.

Anyway, they use German data for a few reasons.

• It provides a lot of variety: corporate tax rates are set locally rather than nationally in Germany
• This also makes it a large sample: 45K observations, since each municipality is different from the next one.
• It also allows for a relatively pure test of policy changes that affect tax rates rather than the tax base. This is because the tax base (deciding which institutions have to pay, and which number gets taxed) is determined at the national level, but each municipality can decide whether they want to tax their corporations relatively more or less.

They conclude that a corporate tax (labeled as falling on corporations) is 51% incident on labor. The estimate is not very precise: the 95% confidence interval is 17 - 83%. These results are in column (1) of Table 1 on page 16.

This assertion I made in this blog (a few posts back) and in class the other day — that an incidence on labor of 2/3 is a good starting point — easily falls in their range.

So this confirms that the Republicans are right: their corporate tax rate cut will benefit workers.†

Reasonable people can quibble about where the truth lies in that range. But what one should not do is presume that the incidence is, say, 30%, because you prefer workers to owners. Instead, you need to be thinking, this could help workers a little (30%) or a lot (70%), but it’s definitely going to help workers.

Given where this was published, this is the new gold standard for evaluating corporate tax rate changes.

† In class, Jason used the phrase “trickle-down” to describe this process. Economists do not like that phrase: it has no firm definition. Republicans don’t like it either: it was invented by Democrats as a pejorative for policies in the 1980’s. Given the intention, it’s reasonable for them to view it as impolite at best (no knock on Jason, I’m just explaining). Anyway, the point of the lecture the other day is that it really isn’t something that trickles down, since that metaphor suggests that much of it is, or could be, prevented from trickling down in the first place. I think the metaphor of “baked in” that I used in class is better: labor and capital go into the firm, but once in there … their effects can’t be separated out again. We can only estimate what the split would be.