If the firm’s decisions about R&D spending are based on comparing after-tax retu
ID: 1116869 • Letter: I
Question
If the firm’s decisions about R&D spending are based on comparing after-tax returns with the interest-rate cost of funds, the increased corporate profit taxes will
increase the after-tax return at each level of investment and cause the after-tax expected rate of return schedule to shift to the right, increasing investment.
reduce the after-tax return at each level of investment and cause the after-tax expected rate of return schedule to shift to the left, reducing investment.
reduce the after-tax return at each level of investment and cause the after-tax expected rate of return schedule to shift to the right, increasing investment.
increase the after-tax return at each level of investment and cause the after-tax expected rate of return schedule to shift to the left, reducing investment.
2. In developing an opinion about increasing corporate profit taxes, the relevant issues for consideration do not include the impact on
aggregate investment.
income distribution.
income equality.
aggregate consumption.
Consider the effect that corporate profit taxes have on investing. Look at the figure below. Suppose that the rline is the rate of return a firm earns before taxes. If corporate profit taxes are imposed, the firm's after-tax returns will be lower (and the higher the tax rate, the lower the after-tax returns) 9 Investment Spending -20 18 16 -14 12 E 10 r=i 6 10 20 30 40 50 60 70 80 90 100 R&D; expenditures (millions of dollars)Explanation / Answer
1. The right answer is option 2: reduce the after-tax return at each level of investment and cause the after-tax expected rate of return schedule to shift to the left, reducing investment.
Explanation: Increase in corporate profit tax will result in lower after-tax return at each level of investment. Lower, the return will result in fall in investment as the interest rate on funds is fixed. So, investment will be reduced.