Welfare effects of business taxation under default risk

A Welfare Analysis on Start-Up Decisions Under Default Risk

“…As can be seen, tax revenue is increasing in τ . In line with Comincioli et al (2021), we therefore find no Laffer effect. Not surprisingly, an increase in τ reduces the contingent value of a firm's NPV.…”

“…Since the representative firm can decide both when to invest and how much to borrow, the distortive effects are twofold. We thus show that the deadweight loss (namely, the ratio between the welfare loss and tax revenue) ranges from 25 to 32%, whereas mature firms face a lower distortion (as shown by Comincioli et al (2021) the maximum deadweight loss is about 25%).…”

“…Here we focus instead on a start-up firm, that can decide when to invest and how much to borrow. In doing so, we compare our results with those obtained by Sørensen (2017) and Comincioli et al (2021): both articles deal with mature firms. This comparison shows that the deadweight loss is much higher not only when there is default risk but also if a start-up firm can decide its optimal investment timing.…”

“…Moreover, according to Dixit and Pindyck (1994), we let the so-called dividend yield δ ≡ r − µ be positive. 2 In line with Comincioli et al (2021), we introduce the following:…”

“…Then, we set I = 25 which coincides with the value of the tax-free perpetual rent Π 0 r−µ = 1 0.04 = 25. According to Dixit and Pindyck (1994) and Comincioli et al (2021), we set σ = 0.20 and α = 0.20, respectively. Some robustness check will then be provided.…”