Heterogeneous Responses to Corporate Marginal Tax Rates: Evidence from Small and Large Firms (with Morteza Zamanian). How do small versus large firms respond to tax cuts? Using new narrative measures of exogenous variation in corporate marginal tax rates and a unique dataset from U.S. firms, we show that the investment response of large firms to a tax cut is almost twice the response of small firms. Furthermore, small firms finance their new investment almost entirely by debt, whereas large firms use cash and debt. Following the tax cut, the tax advantage of debt-financing falls relative to cash-financing. This substitution effect is more pronounced for unconstrained firms and contributes to the greater cash financing of large firms.

Prediction: using our estimates, one can project the near-term impact of the TCJA on corporate real and financial activities. The Act cut the top marginal federal corporate tax rate from 35% to 21% (by 40%). We predict the growth rate of investment for large firms to be 12.5 (7.6) percentage points higher by 2020 (2021).

State-Dependent Macroeconomic Effects of Tax Changes. This paper estimates a state-dependent model where the state of the economy is measured by the unemployment rate, economic growth, and uncertainty. We find larger tax multipliers in low unemployment states and during expansions. However, tax multipliers are smaller when uncertainty is low.

Prediction: given the current state of the U.S. economy and using our estimates, we project the near-term growth impact of the TCJA and predict the level of GDP to be 2.06% higher by 2020.

Note: Mertens (2018) multiplier is obtained by averaging over three direct linear regression models and Eskandari (2019) multiplier is obtained by averaging the output responses over three states of the economy (low unemployment, expansion, and high uncertainty).

Interest Rates, Financial Constraints, and Dynamics of Corporate Cash Holdings (with Morteza Zamanian). This paper provides new evidence on how interest rates are linked to corporate cash policy in the presence of financial frictions. Using both time-series and firm-level data for US public and private manufacturing firms, we find a negative correlation between cash holdings and the interest rates for large/unconstrained firms. We find no evidence of such a relation for small/constrained firms. Our results can help reconcile the contradictory findings of previous studies and suggest that financial constraints play an important role in the adjustment of cash to changes in interest rates. We introduce a simple model in which firms differ in their cost function of external finance, where the constrained firms' highly curved cost function drives a steeper cash demand, leading to their lower cash-interest rate sensitivity.

Note: This figure provides a time-series plot of small and large firm cash-to-assets ratios (left axis) and cost of carry (right axis). This graph strongly suggests a negative correlation between large firms cash ratio and cost of holding cash supporting our empirical results.

Note: This figure plots the average cash-to-assets ratios for constrained and unconstrained US public firms using four classification criteria. Firms with greater difficulties in obtaining external capital (constrained firms) accumulate more cash. In fact, cash holdings are more valuable for financially constrained firms than for unconstrained firms. However, the Kaplan-Zingales index generates the very opposite level of average cash ratio for constrained/unconstrained firms, where unconstrained firms hold more cash to assets.