NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Taxation, Portfolio Choice, and Debt-Equity Ratios: A General Equilibrium Model

Alan J. Auerbach, Mervyn A. King

NBER Working Paper No. 546 (Also Reprint No. r0445)
Issued in 1984
NBER Program(s):   PE

This paper explores the portfolio behavior of investors differing with respect to both tax rates and risk-aversion, emphasizing the role of constraints on individual and firm behavior in ensuring the existence of and characterizing portfolio equilibrium. Under certain conditions on the securities available in the market, which also are required for shareholders to be unanimous in supporting firm value maximization, investors will be segmented by tax rate into two groups, one specialized in equity and the other in debt. Though the relative wealths of the two groups determines the aggregate debt-equity ratio, each firm will be indifferent to its financial policy.

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Published: Auerbach, Alan J. and King, Mervyn A. "Taxation, Portfolio Choice and Debt- Equity Ratios: A General Equilibrium Model." Quarterly Journal of Economics , (November 1983): 588-609.

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