Capital Investment and Labor Demand

We study how tax policies that lower the cost of capital impact investment and labor demand. Difference-in-differences estimates using confidential US Census Data on manufacturing establishments show that tax policies increased both investment and employment, but did not lead to wage or productivity gains. Using a structural model, we show that the primary effect of the policy was to increase the use of all inputs by lowering overall costs of production. The policy further stimulated production employment due to the complementarity of production labor and capital. Supporting this conclusion, we find that investment is greater in plants with lower labor costs. Our results show that recent tax policies that incentivize capital investment do not lead manufacturing plants to replace workers with machines.