13
Conclusion
One important characteristic of the FETA is the provision of generous investment
promotion schemes solely allowed in this enclave. Such measures include profit tax
exemption, free or accelerated depreciation, investment tax allowance, subsidy for
investment costs, etc. From the point of view of the competitive firm which strives to
maximise profits, this study compares, using net present value models, incentive effects of
various tax concession measures under inflation. These effects are determined based on
Samuleson’s true economic depreciation.
According to the calculation made under the given parameter assumption and π = 0, the
ranking of investment promotion effects changes from one measure to another in the
investigated range of statutory corporate tax rates. For example, free depreciation provides
the highest NPV when the tax rate ranges between 10% to 45%, while the same value with
investment tax allowance (with β = 20%) is highest when t = 50%. The profit tax
exemption expels the possibility of tax paradox in the standard marginal equilibrium
condition for the investment decision. Furthermore, the subsidy for investment costs is
equivalent to the extra profit for the investor by the given asset value and therefore can
change the investors’ marginal acceptance level.
The aspect of inflation linked with different depreciation rules is of particular
importance in transition and developing countries where their economies have been
confronted with rising prices. In particular the application of the historical cost accounting
method causes fictitious profits in inflationary phases. Therefore, the extra tax burden
increases with the corporate tax rate by the given inflation rate. In this sense the selection
of lower corporate tax rates can also be justified in the FETA. Under the given parameter
assumptions including t = 20% and an annual inflation rate higher than 25%, however, the
free depreciation scheme does not seem to provide any ‘true’ incentive effects but only
compensates such inflation losses.
References
Atkinson, A. B. and J. E. Stiglitz. (1980), Lectures on Public Economics, London:
McGraw-Hill.
Bartik, T. (1991), Who Benefits from State and Local Economic Development Policies,
Kalamazoo, MI.: W.E. Upjohn Institute for Employment Research 1991.
Bishop, J. A., J. P. Formby and B. Zheng (1996), Regional Income Inequality and Welfare