The role of corporate taxes in the decline of the startup rate

Julian Neira,Rish Singhania

doi:10.1111/ecin.13066

Abstract

AbstractThe US has experienced a joint decline in corporate tax rates and startup rates in recent decades. We study how changes in corporate taxes affect startup rates in a firm dynamics model with occupational choice. A change in profit taxes has ambiguous effects on firm selection, and therefore on the startup rate. Quantitatively, the observed fall in US corporate tax rates generates, at most, one‐fifth of the startup rate decline. Sensitivity analysis suggests that this number is best interpreted as an upper bound, indicating that corporate taxes did not play a major role in the startup rate decline.

Highlights

The startup rate—defined as the ratio of zero-year-old firms to the total number of firms— has declined from 14% to 8% in the United States in the last four decades.1 The decline in startup activity is a source of growing concern
We find sectors with the largest decline in the effective corporate tax rate exhibit the largest declines in the startup rate
Patterns in US sectoral data suggest corporate taxes played an important role: sectors that saw the biggest decline in corporate tax rates experienced the largest decline in startup rates

Summary

Introduction

The startup rate—defined as the ratio of zero-year-old firms to the total number of firms— has declined from 14% to 8% in the United States in the last four decades. The decline in startup activity is a source of growing concern. The decline in startup activity is a source of growing concern. A decline in startups has been connected to productivity slowdowns (Clementi and Palazzo, 2016), jobless recoveries (Pugsley and Sahin, 2014), and overall persistent effects on the macroeconomy (Gourio et al, 2016). The reasons behind the decline in the startup rate are not well understood. What drives the decline in the startup rate? An increase in corporate taxes decreases business profitability, which in turn discourages business formation. A look at taxes paid by US corporations reveals that the effective corporate tax rate decreased from 40% to 20% over the same time period; see McGrattan and Prescott (2005) and Zucman (2014). The coincidence of the decline in the effective corporate tax rate and the decline in the startup rate is striking; see Figure 1

Results

Discussion

Conclusion