Investment Tax Incentives, Prices, and the Supply of Capital Goods

Abstract

Using data on the prices capital goods, this paper shows that much the benefit of investment tax incentives does not go to investing firms but rather to capital suppliers through higher prices. The reduction in the cost capital from a 10 percent investment tax credit increases equipment prices 3.5-7.0 percent. This lasts several years and is largest for assets large order backlogs, low import competition, or with a large fraction buyers able to use investment subsidies. Capital goods workers' wages rise, too. Instrumental variables the short-run supply elasticity are around 1 and can explain the traditionally small estimates of investment demand elasticities. In absolute value, the demand elasticity implied here exceeds 1.