Can tax rate changes accelerate investment under entry and exit flexibility? – Insights from an economic experiment

Abstract

This study investigates the conditions under which tax rate changes accelerate risky investments. While tax rate increases are often expected to harm investment, analytical studies find tax rate increases may foster investment under flexibility. We design a theorybased experiment with a binomial random walk and entry–exit flexibility. We find accelerated investment upon tax rate increases irrespective of an exit option, but no corresponding response to tax cuts. This asymmetry may be due to tax salience and mechanisms from irreversible choice under uncertainty. Given this evidence of unexpected tax-reform effects, tax policymakers should carefully consider behavioral aspects.

Participating Institutions

TRR 266‘s main locations are Paderborn University (Coordinating University), HU Berlin, and University of Mannheim. All three locations have been centers for accounting and tax research for many years. They are joined by researchers from LMU Munich, Frankfurt School of Finance and Management, WHU – Otto Beisheim School of Management, ESMT Berlin, Goethe University Frankfurt and Carl von Ossietzky University Oldenburg who share the same research agenda.