Tax Reform in Open Economies

Tax Reform in Open Economies

International and Country Perspectives

Edited by Iris Claus, Norman Gemmell, Michelle Harding and David White

The eminent contributors (including Altshuler, Creedy, Freebairn, Gravelle, Heady, Kalb, Sørensen and Zodrow) investigate the beneficial directions for medium-term tax reform in the light of global developments and lessons from the latest taxation research. In addressing this issue, they review recent advances in both the theoretical and empirical tax literature and reform evidence from individual countries. Topics covered include the impact of taxes on economic performance; international and corporate taxation; personal tax and welfare systems; environmental taxation; and country-specific tax reform experiences.

Chapter 3: Economic Effects of Investment Subsidies

Jane Gravelle

Subjects: economics and finance, financial economics and regulation, public finance, public sector economics


Jane Gravelle* INTRODUCTION 3.1 Explicit investment subsides in the United States can be dated back to the early 1960s when the investment tax credit was introduced, although the accelerated depreciation methods adopted in 1954 and 1962 were also justified on the basis of economic stimulus; see Gravelle (1994) for a history. While the investment credit was initially considered as a permanent part of the tax system, the credit was subsequently used as a short-term stimulus, and then returned to being a permanent tax feature. In 1986, however, the United States repealed the investment credit and created a system with the present value of tax depreciation close to economic depreciation. Depreciation was accelerated but designed to offset inflation, although a subsequent decline in inflation reduced effective tax rates, especially for shorter-lived assets that are more sensitive to inflation, as discussed in Gravelle (2001). The revenue gains from the repeal of the investment credit were used to reduce the corporate tax rate. According to Pechman’s (1987) study of comparative tax systems, every country studied (Sweden, the Netherlands, France, Italy, Germany, the United Kingdom, Canada, and Japan) had experimented with tax incentives for investment. Pechman noted a growing disenchantment almost everywhere with investment incentives because of their distortions and inequities. Investment subsidies have tended to favor certain types of assets – plant and equipment – and have been provided in a form that is distorting even among the class of assets covered. Indeed, despite the move towards lower statutory tax rates rather than investment subsidies,...

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