Implications of tax policy for innovation and aggregate productivity growth

We examine the quantitative implications of income taxation for innovation and aggregate productivity growth within the context of a dynamic stochastic general equilibrium model of innovation-led growth. In the model, innovation comes from entrants creating new products and incumbents improving own existing products. The model embodies key features of the U.S. government sector: (i) an individual income tax with differential treatment of labor income, dividends, and capital gains; (ii) a corporate tax; (iii) a consumption tax; (iv) government purchases. The model is restricted to fit observations for the post-war U.S. economy. Our results suggest that endogenous movements in aggregate productivity and endogenous market structure play a quantitatively important role in the propagation of tax shocks.