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Suppose companies can deduct interest payments on their debt against their taxable income: they pay tax on pro?ts, net of interest payments on debt. The revenue that a com- pany generates from some new investment is taxed, but it can be offset by depreciation of the capital. Suppose the government introduces a 100% deprecation allowance so that com- panies can immediately deduct all investment spending from taxable pro?t. But to offset this very generous measure, they set the corporate tax rate at a high level of 60%. Is the resulting tax system advantageous or disadvantageous to investment-take as your benchmark a situ- ation with no taxes at all. Assume companies use debt to ?nance investment.

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