Tax Policy and Corporate Saving

Abstract

Tax Policy and Corporate Saving ALTHOUGH CORPORATIONS are responsible for roughly half of private saving in the United States, most studies of saving focus exclusively on household behavior. Policy initiatives to increase saving have also concentrated on personal saving, through such measures as Individual Retirement Accounts and reductions in marginal tax rates. The Tax Reform Act of 1986 is likely to prove a particularly costly example of the neglect of corporate saving. The new law increases corporate taxes approximately $120 billion over the next five years and reduces the tax incentives for retaining corporate earnings. Even if it does not affect pretax corporate earnings, it could reduce corporate saving between $30 billion and $40 billion a year by 1989. Whether tax-induced changes in corporate saving affect the level of private saving is a central issue in evaluating the recent tax reform. Most theoretical studies model household consumption and saving decisions as afunction of the private sector's budget constraint, implicitly assuming that households "pierce the corporate veil" and take full account of corporations' saving on their behalf. According to that view, the Tax Reform Act's reallocation of tax burdens between individuals and corporations will not affect private saving. In contrast, most macro-econometric models and saving studies that link consumption decisions I am grateful to Mitchell Petersen and Barry Perlstein for research assistance; to Robert Barro, David Cutler, Robert Hall, Glenn Hubbard, Mervyn King, Richard Ruback, and members of the Brookings Panel for helpful discussions; to Joosung Jun and Data Resources, Inc., for providing data; and to the National Science Foundation and a Batterymarch Financial Fellowship for research support. A data appendix for this project is on file at the Interuniversity Consortium for Political and Social Research. 455