Quantifying the Effect of Corporate Taxes on the Life Cycle of Firms

How does corporate taxation affect the life cycle of firms? A change in profit-tax rates affects the life cycle of firms through wages and through firm selection. We quantify these effects by looking at the average size of young and mature US firms 30 years after the Reagan Tax Cuts. We disentangle the wage and the selection effects using a model of firm dynamics. We find that the wage effect of profit tax cuts is about six times stronger than the selection effect. A change in population growth affects average firm size by changing the composition of surviving firms. We find that the effect of declining population growth on average firm size is three times stronger for mature firms than for young firms.