Tax Policy Expectations and Firm Behavior: Evidence from the 2016 U.S. Election and the Tax Cuts and Jobs Act

61 Pages Posted: 25 Feb 2021 Last revised: 14 Jun 2021

See all articles by John Gallemore

John Gallemore

University of Chicago - Booth School of Business

Stephan Hollander

Tilburg University - Tilburg School of Economics and Management

Martin Jacob

WHU - Otto Beisheim School of Management

Xiang Zheng

Norwegian School of Economics (NHH)

Date Written: June 7, 2021

Abstract

We examine how tax policy expectations evolve around and shape firm responses to a change in tax policy. Our study is motivated by recent research which suggests that bias arising from unmeasured policy expectations can confound inferences regarding the causal impact of a policy change on firm behavior, leaving the new policy’s effect largely unknown. Using a novel approach to measure firms’ expectations over tax policy and exploiting the periods around the surprise election of Donald Trump, who campaigned heavily on tax reform, and the resulting Tax Cuts and Jobs Act (TCJA), we show that these events materially affect tax policy expectations, sometimes counter to often-used conventional assumptions (e.g., we find that uncertainty over tax policy increases after Trump’s election), and exhibit substantial heterogeneity across firms. These expectations affect firm behavior in two important ways. First, we find that tax policy expectations shape firm investment prior to the passage of the TCJA, suggesting that expectations could confound researchers’ ability to attribute changes in firm behavior to the policy change itself. Second, we show that the tax reform affects firm investment through its impact on expectations over tax policy. Our findings are broadly consistent with tax policy expectations shaping firm behavior, and suggest that it is important to measure and incorporate these expectations into the analysis of tax policy.

Keywords: policy expectations, tax policy, tax reform, investment

JEL Classification: D72, G31, G38, H25

Suggested Citation

Gallemore, John and Hollander, Stephan and Jacob, Martin and Zheng, Xiang, Tax Policy Expectations and Firm Behavior: Evidence from the 2016 U.S. Election and the Tax Cuts and Jobs Act (June 7, 2021). Available at SSRN: https://ssrn.com/abstract=3775710 or http://dx.doi.org/10.2139/ssrn.3775710

John Gallemore (Contact Author)

University of Chicago - Booth School of Business ( email )

5807 S. Woodlawn Avenue
Chicago, IL 60637
United States

Stephan Hollander

Tilburg University - Tilburg School of Economics and Management ( email )

P.O. Box 90153
Tilburg, DC Noord-Brabant 5000 LE
Netherlands
+31 13 466 8288 (Phone)
+31 13 466 8001 (Fax)

HOME PAGE: http://www.uvt.nl/people/s.hollander

Martin Jacob

WHU - Otto Beisheim School of Management ( email )

Burgplatz 2
D-56179 Vallendar, 56179
Germany

HOME PAGE: http://www.whu.edu/steuer

Xiang Zheng

Norwegian School of Economics (NHH) ( email )

Helleveien 30
Bergen, NO-5045
Norway

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