The Choice of Tax Bases under Fiscal Federalism and the Unitary System

This paper analyzes the government's choice of three proportional tax bases (a consumption tax, a wage tax and a capital income tax) and its influence on the steady-state levels of capital accumulation and social welfare under fiscal federalism and the unitary system. We report two main findings: first, the system that uses a consumption and a capital income tax bases yields a higher steady state level of capital accumulation than that which uses a wage tax base. When each system uses the same tax base, then the steady state levels of capital accumulation under the two systems are equivalent. Second, the social welfare levels in fiscal federalism and the unitary system under a consumption tax base are equivalent if individual's rate of time preference just equal to the interest rate, while the social welfare levels in the two systems under the wage and capital income tax bases are equivalent if and only if the rate of time preference is equal to the population growth rate.