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Fiscal competition, revenue sharing, and policy-induced agglomeration

  • Jean, HINDRIKS

    (UNIVERSITE CATHOLIQUE DE LOUVAIN, Center for Operations Research and Econometrics (CORE))

  • Susana , PERALTA
  • Sholmo , WEBER

Revenue sharing can be used to discourage low tax regions from competing for capital and firms with high tax regions. However, with heterogeneous regions, revenue sharing involves net transfers across regions and creates a “moral-hazard†problem - that is, regions may want to invest less in market fostering public good when the benefits are shared across nations. This paper analyzes these costs and benefits of revenue sharing. When asymmetric regions compete in capital income taxes only, we show that revenue sharing can be desirable for the high tax region if it is pushed far enough (i.e., J-curve effect), while tax harmonization is always harmful for the low tax region. When regions also compete through public investments, we find that tax competition distorts (downards) public investments. While revenue sharing discourages public investments due to moral-hazard effect, it remains beneficial in most cases. Moreover, there are new agglomeration forces resulting from public investments because the inflow of capital raises the incentive for public investments which in turn attract more capital. This leads to the possibility of policy-induced agglomeration (which is different from the classical agglomeration forces in the New Economic geography).

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Paper provided by Université catholique de Louvain, Département des Sciences Economiques in its series Discussion Papers (ECON - Département des Sciences Economiques) with number 2005062.

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Length: 28
Date of creation: 01 Dec 2005
Date of revision:
Handle: RePEc:ctl:louvec:2005062
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  1. Ravi Kanbur & Michael Keen, 1991. "Jeux Sans Frontieres: Tax Competition and Tax Coordination when Countries Differ in Size," Working Papers 819, Queen's University, Department of Economics.
  2. HINDRIKS, Jean & MYLES, Gareth D., . "Strategic inter-regional transfers," CORE Discussion Papers RP -1599, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  3. Robin W. Boadway & Frank R. Flatters, 1982. "Efficiency and Equalization Payments in a Federal System of Government: A Synthesis and Extension of Recent Results," Canadian Journal of Economics, Canadian Economics Association, vol. 15(4), pages 613-33, November.
  4. Buettner, Thiess, 2006. "The incentive effect of fiscal equalization transfers on tax policy," Journal of Public Economics, Elsevier, vol. 90(3), pages 477-497, February.
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  6. Richard Baldwin; Paul Krugman, 2001. "Agglomeration, Integration and Tax Harmonization," IHEID Working Papers 01-2001, Economics Section, The Graduate Institute of International Studies.
  7. FIGUIÈRES, Charles & HINDRIKS, Jean & MYLES, Gareth D., 2001. "Revenue sharing versus expenditure sharing," CORE Discussion Papers 2001015, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  8. Sam Bucovetsky & Michael Smart, 2002. "The Efficiency Consequences of Local Revenue Equalization: Tax Competition and Tax Distortions," CESifo Working Paper Series 767, CESifo Group Munich.
  9. Signe Krogstrup, 2003. "Are Capital Taxes Racing to the Bottom in the European Union?," IHEID Working Papers 01-2003, Economics Section, The Graduate Institute of International Studies.
  10. Hepp, Ralf & von Hagen, Jürgen, 2001. "Regional Risksharing and Redistribution in the German Federation," CEPR Discussion Papers 2662, C.E.P.R. Discussion Papers.
  11. Bordignon, Massimo & Manasse, Paolo & Tabellini, Guido, 1996. "Optimal Regional Redistribution Under Asymmetric Information," CEPR Discussion Papers 1437, C.E.P.R. Discussion Papers.
  12. Keith Head & Thierry Mayer, 2004. "Market Potential and the Location of Japanese Investment in the European Union," The Review of Economics and Statistics, MIT Press, vol. 86(4), pages 959-972, November.
  13. Marko Köthenbürger, 2002. "Tax Competition and Fiscal Equalization," International Tax and Public Finance, Springer, vol. 9(4), pages 391-408, August.
  14. FIGUIÈRES, Charles & HINDRIKS, Jean & MYLES, Gareth D., . "Revenue sharing versus expenditure sharing in a federal system," CORE Discussion Papers RP -1683, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  15. Joseph E. Stiglitz, 1982. "The Theory of Local Public Goods Twenty-Five Years After Tiebout: A Perspective," NBER Working Papers 0954, National Bureau of Economic Research, Inc.
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  17. Baretti, Christian & Huber, Bernd & Lichtblau, Karl, 2002. "A Tax on Tax Revenue: The Incentive Effects of Equalizing Transfers: Evidence from Germany," Munich Reprints in Economics 20129, University of Munich, Department of Economics.
  18. Bev Dahlby & Neil Warren, 2003. "Fiscal Incentive Effects of the Australian Equalisation System," The Economic Record, The Economic Society of Australia, vol. 79(247), pages 434-445, December.
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  22. Shah, Anwar, 2004. "Fiscal decentralization in developing and transition economies: progress, problems, and the promise," Policy Research Working Paper Series 3282, The World Bank.
  23. Michael Smart, 1998. "Taxation and Deadweight Loss in a System of Intergovernmental Transfers," Canadian Journal of Economics, Canadian Economics Association, vol. 31(1), pages 189-206, February.
  24. Wildasin, David E, 1991. "Income Redistribution in a Common Labor Market," American Economic Review, American Economic Association, vol. 81(4), pages 757-74, September.
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