Corporate income taxes raise the cost of capital firms must pay when investing. A higher corporate tax translates into less investment and capital formation. Lower capital formation means that workers have less capital to work with, which lowers their productivity. Lower labor productivity translates into lower real wages and living standards.
One factor that affects capital formation are differences in the cost of capital between nations. In today's global marketplace, capital increasingly flows freely across borders. When a country lowers corporate taxes, it attracts capital.
Recent research has focused on the lower corporate tax rates enacted by OECD nations over the past two decades to explore the link between corporate taxes and wages. This research has found that wage rates have gone up the most in countries with the largest reduction in corporate taxes. This finding is important because is tells a story whereby the corporate tax is borne by workers, through lower real wages, rather than by owners of capital. A tax will generally be borne by the input that is the least mobile.In today's world economy, capital flows freely across borders, while labor does. Thus, the corporate tax lowers workers' real wages relative to where they would be set otherwise.