Part 1 - AL-Tax

Chapter 2is a difference between the actual revenue raised under the current tax systemand an estimated revenue, which would be collected under a hypothetical cashflow tax 13 (the so-called R-base tax, where R stands for real) that excludes financialincome and replaces depreciation allowances by expensing for new investment.Given that a cash flow tax imposes a zero tax on the marginal investment(due to the absence of distinction between items of current expenditure and capital),the tax of Gordon et al. (2003) can be written as:( )METRB T E / K ,( T E ) / K r(1 τ)(2.23)where E is the tax that would be collected under a cash flow tax, and the othervariables are as defined previously.Sørensen showed that this backward-looking METR is equal to the forwardlookingMETR under the assumptions used in deriving equation (2.22). From thatexpression we know that, under full expensing:E τ( pr) K.Therefore, the numerator of equation (2.23) is:T E ( τ A )( r δ).KAdditionally, we can write equation (2.16) as:( τ A rɶpr )( δ)1 τand by substitution into equation (23), it follows that:METRB( τ )( ) A r δ pɶ r METRF.(1 τ)pɶpɶ2.4 The cost of production approach2.4.1 Marginal ETRCAn extension to the cost of capital discussed above is the cost of production introducedby McKenzie et al. (1997). They argue that other noncapital taxes also affect31