European Economic Review 32, Papers & Proceedings, 1988, pp. 325-333.
The 1986 U.S. tax reform was a policy of tax cut cum base broadening.’ Among other things, the corporate and personal tax rates were reduced, the Investment Tax Credit (ITC) was lifted, the depreciation periods of the Accelerated Cost Recovery System (ACRS) were lenghtened, and realized capital gains became fully included in the personal tax base. This paper gives a brief overview of the main effects on international capital movements that these measures may have, drawing on related and more elaborate discussions of the subject in Sinn (1987a, Ch. 7, and 1987b). The analysis focuses on the interactions between the real and financial spheres of the economy and, unlike most of the existing literature on taxation and international capital flows, it is based on a microfoundation of the tax influence on the firms’ marginal investment conditions. The main result is that, in the presence of accelerated depreciation and the residence principle for interest income taxation, not only the base broadening, but also the tax cuts, may expel capital from the United States.