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Bother thy neighbour? Intergovernmental Tax Interactions in the Canadian Federation

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  • Ann Cavlovic
  • Harriet Jackson
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    Abstract

    The subject of tax interactions, such as tax competition, has become pervasive in government discussions and in the media in Canada over the past few years. These interactions may become more widespread as provinces gain greater flexibility in personal income taxes through a tax-on-income system and as many jurisdictions implement tax reduction packages. The goal of this paper is to determine the existence and extent of horizontal tax interactions (among provinces) and vertical tax interactions (between the federal and provincial governments) in Canada between 1963 and 1998. The framework adopted draws on recent work by Hayashi and Boadway (2000) which adapts Zodrow and Mieszkowski’s (1986) static tax competition model to include all provinces and the federal government. Jurisdictions choose tax rates to maximise the government objective function that includes both revenues and the capital stock as arguments. All governments act as Nash competitors. Tax interactions in both corporate income taxes (CIT) and personal income taxes (PIT) are examined. Estimation results for the period covered find evidence of vertical and horizontal tax interactions in the field of CIT. However, there is no evidence of horizontal tax interactions in the field of PIT, and little for vertical interactions, during this time. La question des interactions en matière fiscale, comme la concurrence en matière fiscale, occupe désormais une grande place dans les discussions tenues au sein du gouvernement et mobilise l’attention des médias au Canada depuis un certain temps. Ces interactions pourraient prendre de l’envergure car les provinces acquièrent une plus grande marge de manœuvre au chapitre de l’impôt des particuliers, grâce au régime de l’impôt calculé sur le revenu et que de nombreuses administrations publiques adoptent un plan de réduction des impôts. Le document a pour objectif de déterminer l’existence et l’ampleur des interactions fiscales horizontales (parmi les provinces) et les interactions fiscales verticales (entre les paliers fédéral et provincial au Canada) entre 1963 et 1998. Le cadre adopté s’appuie sur des travaux effectués récemment par Hayashi et Boadway (2000), qui adapte un modèle statique de concurrence fiscale de Zodrow et Mieszkowski’s (1986) pour inclure toutes les provinces et le gouvernement fédéral. Les administrations publiques ont choisi des taux d’imposition qui maximise la fonction de décision du gouvernement dans laquelle s’insèrent les recettes et le capital social. Tous les gouvernements agissent en tant que concurrents du Nash. Les interactions fiscales au titre de l’impôt des sociétés et de l’impôt des particuliers sont examinées. Les résultats estimatifs obtenus pour la période couverte font ressortir l’existence d’interactions fiscales à la fois verticale et horizontale en ce qui touche l’impôt des sociétés. Toutefois, rien ne prouve qu’il existe des interactions fiscales horizontales dans le domaine de l’impôt des particuliers, et les interactions verticales semblent très minces, pendant cette période.

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    Bibliographic Info

    Paper provided by Department of Finance Canada in its series Working Papers-Department of Finance Canada with number 2003-09.

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    Handle: RePEc:fca:wpfnca:2003-09

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    References

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    1. Timothy J. Besley & Harvey S. Rosen, 1999. "Vertical Externalities in Tax Setting: Evidence from Gasoline and Cigarettes," NBER Working Papers 6517, National Bureau of Economic Research, Inc.
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    3. Mintz, J. & Tulkens, H., 1984. "Commodity tax competition between member states of a federation: equilibrium and efficiency," CORE Discussion Papers 1984027, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
    4. Wilson, John Douglas, 1999. "Theories of Tax Competition," National Tax Journal, National Tax Association, vol. 52(n. 2), pages 269-304, June.
    5. Cremer, Helmuth & Gahvari, Firouz, 2000. "Tax evasion, fiscal competition and economic integration," European Economic Review, Elsevier, vol. 44(9), pages 1633-1657, October.
    6. Michael Smart, 1996. "Taxation incentives and deadweight loss in a system of intergovernmental transfers," Working Papers msmart-96-03, University of Toronto, Department of Economics.
    7. WILDASIN, David, . "Nash equilibria in models of fiscal competition," CORE Discussion Papers RP -804, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
    8. Johnson, William R, 1988. "Income Redistribution in a Federal System," American Economic Review, American Economic Association, vol. 78(3), pages 570-73, June.
    9. Cassing, J H & Hillman, A L, 1982. "State-Federal Resource Tax Rivalry: The Queensland Railway and the Federal Export Tax," The Economic Record, The Economic Society of Australia, vol. 58(162), pages 235-41, September.
    10. Wagener, Andreas, 2001. "Double Bertrand tax competition: a fiscal game with governments acting as middlemen," Regional Science and Urban Economics, Elsevier, vol. 31(2-3), pages 273-297, April.
    11. Masayoshi Hayashi & Robin Boadway, 2001. "An empirical analysis of intergovernmental tax interaction: the case of business income taxes in Canada," Canadian Journal of Economics, Canadian Economics Association, vol. 34(2), pages 481-503, May.
    12. Bev Dahlby, 1996. "Fiscal externalities and the design of intergovernmental grants," International Tax and Public Finance, Springer, vol. 3(3), pages 397-412, July.
    13. Jones, Mark P. & Sanguinetti, Pablo & Tommasi, Mariano, 2000. "Politics, institutions, and fiscal performance in a federal system: an analysis of the Argentine provinces," Journal of Development Economics, Elsevier, vol. 61(2), pages 305-333, April.
    14. repec:fth:louvco:9803 is not listed on IDEAS
    15. Heyndels, Bruno & Vuchelen, Jef, 1998. "Tax Mimicking Among Belgian Municipalities," National Tax Journal, National Tax Association, vol. 51(n. 1), pages 89-101, March.
    16. Zodrow, George R. & Mieszkowski, Peter, 1986. "Pigou, Tiebout, property taxation, and the underprovision of local public goods," Journal of Urban Economics, Elsevier, vol. 19(3), pages 356-370, May.
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    18. Hoyt, William H., 2001. "Tax Policy Coordination, Vertical Externalities, and Optimal Taxation in a System of Hierarchical Governments," Journal of Urban Economics, Elsevier, vol. 50(3), pages 491-516, November.
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    Cited by:
    1. Fredrik Andersson & Rikard Forslid, 2000. "Tax Competition and Economic Geography," Econometric Society World Congress 2000 Contributed Papers 1356, Econometric Society.
    2. Sylvie Charlot & Sonia Paty, 2010. "Do Agglomeration Forces Strengthen Tax Interactions?," Urban Studies, Urban Studies Journal Limited, vol. 47(5), pages 1099-1116, May.

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