The investment effect of fiscal consolidation
Title: The investment effect of fiscal consolidation
Series/Number: EUI ECO; 2014/10
This paper investigates the relationship between fiscal consolidation, business plans and firm investment. Based on a detailed narrative of tax changes in Germany covering 40 years of fiscal adjustments, we define and exploit the exogenous variation of tax bills to quantify the effect of tax changes on firm future investment plans as well as on realized investment. We find that firms in the manufacturing sector revise downwards their planned investment by about 4% subsequently to a tax increase equal to 1% of the value added in the total manufacturing industry. On the contrary realized investment growth drops by around 8% at impact. Furthermore we find that income and consumption taxes are most harmful to investment and that firms base their investment plans considering laws currently under discussion, anticipating future tax changes. Not taking into account this anticipation effect would lead to strongly biased estimates.
Subject: Firm investment; Fiscal shocks; Narrative identification; Business confidence; E22; E62; H32
Type of Access: openAccess; openAccess