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Subsidies to Poor Regions and Inequalities: Some Unpleasant Arithmetic

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  • Dupont, Vincent
  • Martin, Philippe

Abstract

This paper analyses the effect of different types of regional subsidies to poor regions on industrial location, employment, income inequality - between and inside regions - and welfare. We show that the impact on location of such subsidies is stronger when trade costs are low. When firms are mobile, regional subsidies that take the form of tax breaks or subsidies to the fixed cost lead to higher profits for all firms, even those not located in the region that gives the subsidy. If financed at the national level, such subsidies, given to firms in the poor region increase regional income inequality as the rich region owns more capital. Hence, even though they constitute an official financial transfer from the rich to the poor region, they actually lead to an income transfer from the poor to the rich region. It also leads to higher inequality within regions. When financed at the local level, subsidies succeed in attracting firms. Besides, as regional subsidies to firms of the manufacturing sector in the poor region alter local competition and firm size, they may actually lead to a decrease of regional employment and production of that sector in the poor region. Finally, with relocation costs, such regional subsidies may hurt the poor region.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 4107.

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Date of creation: Nov 2003
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Handle: RePEc:cpr:ceprdp:4107

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Keywords: economic geography; regional inequalities; regional subsidies;

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  1. Rodney D. Ludema & Ian Wooton, 1998. "Economic Geography and the Fiscal Effects of Regional Integration," International Trade 9801001, EconWPA.
  2. Karen Helene Midelfart-Knarvik & Henry G. Overman, 2002. "Delocation and European integration: is structural spending justified?," Economic Policy, CEPR & CES & MSH, vol. 17(35), pages 321-359, October.
  3. Venables, Anthony J, 1996. "Equilibrium Locations of Vertically Linked Industries," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 37(2), pages 341-59, May.
  4. Andreas Haufler & Ian Wooton, . "Country Size and Tax Competition for Foreign Direct Investment," Working Papers 9702, Business School - Economics, University of Glasgow.
  5. Krugman, Paul, 1991. "Increasing Returns and Economic Geography," Journal of Political Economy, University of Chicago Press, vol. 99(3), pages 483-99, June.
  6. Fuest, Clemens & Huber, Bernd, 2000. "Why do governments subsidise investment and not employment?," Journal of Public Economics, Elsevier, vol. 78(1-2), pages 171-192, October.
  7. Martin, Philippe & Rogers, Carol Ann, 1995. "Industrial location and public infrastructure," Journal of International Economics, Elsevier, vol. 39(3-4), pages 335-351, November.
  8. Martin, Philippe, 1999. "Public policies, regional inequalities and growth," Journal of Public Economics, Elsevier, vol. 73(1), pages 85-105, July.
  9. Ray Owens & Pierre-Daniel Sarte, 1999. "Analyzing firm location decisions : is public intervention justified?," Working Paper 99-08, Federal Reserve Bank of Richmond.
  10. Fuest, Clemens & Huber, Bernd, 2000. "Why do governments subsidise investment and not employment?," Munich Reprints in Economics 20295, University of Munich, Department of Economics.
  11. Forslid, Rikard, 2003. "Regional Policy, Integration and the Location of Industry," Research Papers in Economics 2003:7, Stockholm University, Department of Economics.
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