NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Capital Gains Taxes and Asset Prices: Capitalization or Lock-In?

Zhonglan Dai, Edward Maydew, Douglas A. Shackelford, Harold H. Zhang

NBER Working Paper No. 12342
Issued in June 2006
NBER Program(s):   PE

This paper examines the impact on asset prices from a reduction in the long-term capital gains tax rate using an equilibrium approach that considers both demand and supply responses. We demonstrate that the equilibrium impact of capital gains taxes reflects both the capitalization effect (i.e., capital gains taxes decrease demand) and the lock-in effect (i.e., capital gains taxes decrease supply). Depending on time periods and stock characteristics, either effect may dominate. Using the Taxpayer Relief Act of 1997 as our event, we find evidence supporting a dominant capitalization effect in the week following news that sharply increased the probability of a reduction in the capital gains tax rate and a dominant lock-in effect in the week after the rate reduction became effective. Nondividend paying stocks (whose shareholders only face capital gains taxes) experience higher average returns during the week the capitalization effect dominates and stocks with large embedded capital gains and high tax sensitive investor ownership exhibit lower average returns during the week the lock-in effect dominates. We also find that the tax cut increases the trading volume during the week immediately before and after the tax cut becomes effective and in stocks with large embedded capital gains and high tax sensitive ownership during the dominant lock-in week.

download in pdf format
   (270 K)

email paper

This paper is available as PDF (270 K) or via email.

Machine-readable bibliographic record - MARC, RIS, BibTeX

Published: Zhonglan Dai & Edward Maydew & Douglas A. Shackelford & Harold H. Zhang, 2008. "Capital Gains Taxes and Asset Prices: Capitalization or Lock-in?," Journal of Finance, American Finance Association, vol. 63(2), pages 709-742, 04.

Users who downloaded this paper also downloaded these:
Blouin, Raedy, and Shackelford w8011 The Impact of Capital Gains Taxes on Stock Price Reactions to S&P 500 Inclusion
Slemrod w0257 The Lock-In Effect of the Capital Gains Tax: Some Time Series Evidence
Stiglitz w1094 Some Aspects of the Taxation of Capital Gains
Shackelford and Verrecchia w7451 Intertemporal Tax Discontinuities
Auerbach, Burman, and Siegel w6399 Capital Gains Taxation and Tax Avoidance: New Evidence from Panel Data
 
Publications
Activities
Meetings
Data
People
About

Support
National Bureau of Economic Research, 1050 Massachusetts Ave., Cambridge, MA 02138; 617-868-3900; email: info@nber.org

Contact Us