Governments have long used tax policy to encourage economic growth, investment, and entrepreneurship. But debates over tax cuts often focus on who benefits rather than on whether different groups respond to tax relief in different ways. A recent working paper by researchers at Yonsei University finds that, in the U.S., tax relief benefiting entrepreneurs generated larger increases in output, employment, and consumer spending than comparable tax relief benefiting wage earners. For state economic development practitioners, the study suggests that the impact of tax relief depends not only on its size, but also on the role recipients play in the economy.
To reach these conclusions, the researchers analyzed federal tax changes between 1981 and 2017, using household data, the NBER's TAXSIM model, and state-level economic indicators to estimate how federal tax changes affected self-employed households differently from wage earners. They then combined those results with a macroeconomic model to examine why the two groups responded differently.
Across several measures, tax cuts for entrepreneurs had stronger economic effects than tax cuts of the same size for wage earners. States that experienced larger reductions in entrepreneur tax saw larger gains in GDP, employment, and consumer spending. The authors also found that entrepreneur-focused tax cuts increased both the number of entrepreneurs and the number of wage jobs. In other words, lower taxes appear to have encouraged more business formation, business expansion, and hiring. By contrast, worker-focused tax cuts raised employment mainly by encouraging more people to enter the labor force, rather than by increasing employers’ demand for workers.
One of the paper's more interesting findings is that it distinguishes entrepreneur-focused tax policy from the broader debate over tax cuts for high-income households. Because entrepreneurs are disproportionately represented among higher-income taxpayers, the two are often treated as synonymous. The authors argue that occupation, rather than income, is what matters. That distinction is central to the paper’s findings. Entrepreneurs decide whether to start businesses, invest in equipment, seek financing, expand operations, and hire workers. As a result, additional after-tax income can influence business investment in ways that are generally not available to wage earners. The study also shows that federal tax policy can affect states differently because entrepreneurial activity is not evenly distributed. States with larger concentrations of entrepreneurs are more exposed to federal tax changes, while differences in payroll tax treatment between self-employed individuals and wage earners add another layer of variation. That means the same federal tax reform can produce different results depending on a state’s entrepreneurial base and industrial structure.
For state policymakers, the findings reinforce the idea that tax relief is most useful when it is designed around the behavior officials want to encourage. The results also suggest that tax incentives are likely to be most effective when paired with policies that improve access to capital, such as venture funds, loan guarantees, and other financing tools. Tax changes that give entrepreneurs more room to invest, expand, and hire may generate larger economic multipliers than comparable reductions aimed only at wage income. Although the study does not compare entrepreneur-focused tax relief with other economic development tools, such as workforce development, R&D incentives, or commercialization programs, it suggests that policymakers should pay as much attention to who receives tax relief as to the overall size of a tax cut.