Passing the burden: corporate tax incidence in open economies



up to the point where the after-tax return to capital equals the world return. This decrease in
capital results in a lower marginal productivity of labor and thereby, if capital is perfectly
mobile, labor bears the entire burden of a capital tax. Harberger (1995) also revisits the incidence
of corporate taxation in an open economy finding that the burden of a corporate tax more than
fully shifts to labor. He estimates that the burden on labor may be 2 to 2.5 times as large as the
corporate tax revenue raised. As Harberger points out, the openness of a country remains a
crucial factor in analyzing the incidence of a corporate tax.

Randolph (2006) and Gravelle and Smetters (2006) both develop general equilibrium
models in an open economy to examine the incidence of the corporate tax. Randolph finds that
labor bears 70 percent of the corporate tax in a model in which worldwide capital stock is fixed.
Gravelle and Smetters similarly assume the capital stock to be fixed and focus on product
substitutability. They find that labor bears less than 70 percent of the corporate tax if products
are not perfectly substitutable. Low savings elasticity and the ability of a country to affect world
prices also reduce labor’s burden in their model. However, by ignoring the effect of corporate
taxes on the growth of capital, these models likely underestimate the impact of corporate taxes
on labor.

While literature in this area has focused heavily on the theoretical side of the issue, this
paper uses an empirical approach to measure the first-order effect of openness on the incidence
of corporate taxation by looking at the effect of openness, corporate taxes and their interaction on
the gross wages of workers. Using cross-country panel data from the Luxembourg Income Study,
I estimate that a ten percentage point increase in the corporate tax rate decreases annual gross
wages by seven percent. Using U.S. data on corporate tax revenues and total wages, these
estimates predict that labor’s burden is more than four times the magnitude of the corporate tax



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