Taxation and firm productivity

• Applicant: Professorin Dr. Dominika Langenmayr
• Subject Area: Economic Policy, Applied Economics
• Term: since 2019
• Project identifier: Deutsche Forschungsgemeinschaft (DFG) - Project number 388587616

Productivity growth is a major determinant of long-run economic growth. How can politics provide suitable conditions to promote productivity growth? The aim of this research project is to investigate the role of tax policy in explaining productivity differences, and the potential it has to promote productivity growth. In the first project of the first funding period, we analyzed the effects of tax rules along the entire productivity distribution. This allowed us to take into account that taxes affect less productive firms in a different way than more productive firms. The tax burden can force unproductive firms to exit the market. Then, a higher tax burden results in higher productivity at the lower end of the productivity distribution. For highly productive firms, the negative effects of higher taxes on (productivity-enhancing) investments dominate. In the second funding period, we will extend this study by a) looking at alternative performance measures in addition to productivity; and b) analyzing how taxes affect the mobility of firms within the productivity distribution. In the second project of the first funding period, we analyzed the impact of the international tax system (i.e., worldwide vs. territorial tax system) on measured firm productivity. We used the introduction of a territorial tax system in the UK in 2009 as a natural experiment. By means of a difference-in-differences approach, we show that after the reform, UK corporations shifted more profits to countries with a lower tax rate than the UK. This profit shifting leads to a mismeasurement of productivity: UK corporations became seemingly more productive in low-tax countries and less productive in the UK. In the second funding period, we aim to develop methods for estimating total factor productivity that correct for this mismeasurement due to profit shifting. This will involve estimating the profit-shifting bias in the measurement of inputs in order to adjust the productivity measure accordingly. Finally, we would like to study the interaction between tax policy and research and development (R&D, one of the main determinants of productivity). To this end, we develop a model that captures firm-level R&D activities as well as the patenting decision. This decision has been little studied so far, although it has important implications for taxation: only a patented (or otherwise codified) innovation can be used to reduce the tax burden by moving the associated intangible assets to a tax haven and using royalty payments to shift profits there. The goal of this research project is to understand better how the current tax system (and possible alternatives) influence these decisions.

• DFG Programme: Research Units
• Subproject of: FOR 2738: Understanding the Behaviour of Multinational Corporations in the Context of International Tax Institutions
• International Connection: USA
• Co-Investigators: Professor Dr. Johannes Becker; Professorin Dr. Valeria Merlo; Professor Dr. Frank Stähler; Professor Dr. Georg Wamser
• Cooperation Partner: Li Liu, Ph.D.