Negotiating constitutions for political unions

This paper provides a cradle-to-grave model of political merger between two states and highlights the role of cross-border disparities in material and technological endowments in state formation. This issue has not received adequate theoretical attention in the existing scholarship that has largely focussed on factors like defence, trade, and public goods provision. In this paper, merger negotiations are modelled using a bilateral bargaining model with inside options and contest as an outside option. It is shown that the threat of contest constrains the set of mutually acceptable taxes and, more importantly, it provides stability to the federal constitution by making the punishment strategy in the secession rule credible. The existence of negotiated and contested constitutional merger agreements that are path dependent but time-consistent is shown. Also, the rent extracted by the advanced province in the union for transferring technology to the backward province is shown to be increasing in the complexity of technology but bounded from above. Finally, the impact of demographic heterogeneity on the feasibility of inter-state mergers is discussed.