Taxes, Regulations, and Asset Prices

U.S. stock prices have risen much faster than gross national product (GNP) during the postwar period. Between 1960 and 2000, the equity value relative to GNP more than doubled. We use a standard growth model to show that this rise in equity prices is what economic theory predicts. Changes in taxes, primarily changes in taxes on dividends, account for the large change in equity prices. Theory can also account for the fact that stock returns have been much higher than bond returns over the postwar period.