How did behavioural responses after the introduction of an ACE affect the cost of capital?

Reference

Kirn, T. (2016). How did behavioural responses after the introduction of an ACE affect the cost of capital?. Paper presented at the Annual Congress of the International Institute of Public Finance (IIPF 2016), Lake Tahoe, Nevada, USA.

Publication type

Paper in Conference Proceedings

Abstract

This paper examines the impact of an Allowance for Corporate Equity (ACE) on the cost of capital. As the Belgian SMEs have gradually reduced their leverage ratio after the ACE came into force, the analysis disentangles the policy induced direct effect from the impact of the behavioural response on the cost of capital. The main identification strategy is based on variation in the behavioural response of the firm due to the gradual adjustment of their leverage ratio. To disentangle the policy induced direct effect from the impact of the behavioural response, a counterfactual decomposition is carried out by the inference procedure of Chernozhukov et al. (2013). This quasi-natural experiment demonstrates that the ACE significantly reduced the cost of capital. Secondly, the results illustrate that the behavioural impact gained importance by time. Thirdly, a reciprocal influence between the direct and the indirect effect is found, as the direct effect becomes stronger, if firms decrease their leverage ratio. Overall, the findings confirm that reducing the tax discrimination between debt and equity has significantly decreased the cost of equity and reduced the debt bias. This result is relevant for the tax policy discussion in many countries that have introduced or consider introducing a full or an incremental ACE, like the reform package of the third series of corporate tax reforms (CTR III) in Switzerland.

Research

Persons

• Dr. Tanja Kirn

Organizational Units

• Chair for Tax Management and the Laws of Liechtenstein and International Taxation
• Center for Economics

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