The Effect of Corporate Tax Rate Reduction: A simulation analysis with a small open economy DSGE model for Japan

Author Name HASUMI Ryo  (Japan Center for Economic Research)
Creation Date/NO. August 2014 14-J-040
Research Project A Cost-Benefit Analysis of Fiscal Consolidation Measures
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This paper studies the short-term and long-term effects of tax policy changes on the Japanese economy by using a small open economy dynamic stochastic general equilibrium (DSGE) model with endogenous stochastic trends. The parameters of the model are estimated by a usual Bayesian method based on Japanese quarterly macroeconomic data from 1980 to 2010.

A simulation analysis of a 1% to gross domestic product (GDP) scale corporate tax reduction has been implemented, in which fiscal neutrality is kept by raising the consumption tax rate. The real GDP increases by about 1.1% and the consumer price index (CPI) (excluding the effect of the consumption tax change) rises by about 0.2% within two years. This result suggests that such tax policy change induces short-term increases in the growth and inflation rate.