Tax Rate Changes and the Specification of the Tax Equation

Abstract

Various methods have been used to incorporate tax rate changes into the tax equation. Some economists, building on the early work by Groves and Kahn, convert all tax data to reflect the same tax rate and tax base before estimating a tax equation, while, more recently, Singer and others have used additive dummy variables in allowing for tax rate changes. In this paper a theoretical model showing that changes in tax rates affect both the slope and the intercept of the tax equation is developed. Empirical work, based on the fiscal history of Louisiana, is then presented to support the implications of the theoretical model.