Tax Incentives, Small Businesses, and Physical Capital Reallocation

Our study presents novel evidence on the physical capital reallocation e↵ect of temporary federal tax incentives. Using data on equipment purchases by small businesses, we found that temporary tax subsidies on new equipment, specifically in accelerated depreciation, increase investment in old capital goods by 9.2%, which represents nearly 44.3% of the direct e↵ect. Additionally, these tax subsidies lead to an augmented supply of old equipment in the secondary market, causing a reduction in its price. Consequently, this cost reduction alleviates capital constraints for select small businesses, enabling them to increase investment in old capital goods, embrace new technology, and achieve accelerated growth. Our empirical results underscore how tax incentives driving investment in new capital goods foster the reallocation of older capital goods within the economy during recessions.