The Effect of the Capital Gains Tax Exemption on Stock Market Prices in Chile

The reform to capital market in Chile in 2001 enacted, among other things, a capital gain tax exemption for stocks highly traded in stock markets. The goals of the reform were mainly to increase participation, depth and liquidity in the local stock market. However, it is not clear what the effects working on opposite directions. On the one hand, there exists a lock-in effect that leads a reduction in prices. To determine which of the two effects dominated is, therefore, an empirical question. This work contributes to answering this question, estimating for this purpose the effect on stock prices of the capital gains tax reform in Chile in 2001. Using a difference-in-difference estimator, the results show an average anticipated effect of around -15% on stock prices traded in the Santiago Stock Market. The price elasticity with respect to the tax rate in the economic literature for similar tax reforms in other countries ranges between -0,20 and -0,27, higher in magnitude than the one found in this study which range between -0,006 and -0,01. However, the estimated magnitude is quite close to the cases where the lock-in effect dominates.