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Licensed Unlicensed Requires Authentication Published by De Gruyter August 1, 2006

Does the Open Economy Assumption Really Mean That Labor Bears the Burden of a Capital Income Tax?

Jane G Gravelle and Kent A. Smetters

Abstract

The conventional view holds that domestic labor, not domestic capital, bears most of the long-run burden of a corporate income tax in an open economy due to the ability of capital to move across borders. This result assumes that domestic and foreign products (as well as investments) are perfect substitutes. This paper includes imperfect product substitution within a multi-sector open-economy model, and shows that much of the burden may fall on capital. To be sure, if savings falls sufficiently, much of the burden shifts to labor, but this fact also holds in a closed economy. Hence, the debate about tax incidence must focus more on the savings response and less on whether an economy is open or closed.

Published Online: 2006-8-1

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