Stock Market Response to Changes in the Statutory Corporate Income Tax Rate: Comparative Analysis between Developed and Developing Economies

Abstract

In this study, the authors use an empirical approach to evaluate the impact of changes in the statutory corporate tax rate on stock market returns. The main objective is to investigate whether changes in income tax rates impact stock market returns and to examine the extent of this impact. According to the United Nations country classifications, the authors categorized the sample economies into two types: developed and developing1. The study further scrutinizes the differences in the outcomes when comparing developed with developing economies using a comparative study approach. Data on corporate tax rates and corresponding stock market returns are analyzed for developed economies of Japan, US and Italy, and developing economies of South Africa, Malaysia and India. The study uses panel data regression and correlation analysis of the variables of stock market returns and corporate tax rates from1990 to 2010. The statistical analysis revealed that the only significant impact was of tax cuts on stock market returns in general, and developed countries responded more strongly to tax cuts. For a 1% tax cut in rates, the stock markets could expect an increase in returns of 0.185% in the year of the tax change. Tax hikes, however, did not reveal any significant adverse effect on stock market returns. Hence, it is pertinent to note that developed and developing economies exhibit varied behaviors toward corporate tax policies and governments could make calculated decisions, considering the consequences of their tax policies on capital markets and corporate valuations.