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Tax Competition with Heterogeneous Firms

  • Richard E. Baldwin
  • Toshihiro Okubo

This paper studies tax competition in an economic geography model that allows for agglomeration economies with trade costs and heterogeneous firms. We find that the Nash equilibrium involves the large country charging a higher tax than the small nation, with this rate being too low from a social point of view. Lower trade costs lead to an intensification of competition, a drop in Nash tax rates, and a narrowing of the gap. Since large, productive firms are naturally more sensitive to tax differences in our model, large firms are the crux of tax competition in our model. This also means that tax competition has consequences for the average productivity of the big and small nations‟ industry; by lowering tax rates, the small nation can attract high-productivity firms.

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File URL: https://cama.crawford.anu.edu.au/sites/default/files/publication/cama_crawford_anu_edu_au/2014-05/36_2014_baldwin_okubo_0.pdf
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Paper provided by Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University in its series CAMA Working Papers with number 2014-36.

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Length: 21 pages
Date of creation: May 2014
Date of revision:
Handle: RePEc:een:camaaa:2014-36
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  1. Okubo, Toshihiro & Picard, Pierre M & Thisse, Jacques-François, 2008. "The Spatial Selection of Heterogeneous Firms," CEPR Discussion Papers 6978, C.E.P.R. Discussion Papers.
  2. Forslid, Rikard & Midelfart, Karen Helene, 2005. "Internationalisation, industrial policy and clusters," Journal of International Economics, Elsevier, vol. 66(1), pages 197-213, May.
  3. Martin, Philippe & Rogers, Carol Ann, 1995. "Industrial location and public infrastructure," Journal of International Economics, Elsevier, vol. 39(3-4), pages 335-351, November.
  4. Baldwin, Richard E. & Krugman, Paul, 2004. "Agglomeration, integration and tax harmonisation," European Economic Review, Elsevier, vol. 48(1), pages 1-23, February.
  5. Kind, Hans Jarle & Knarvik, Karen Helene Midelfart & Schjelderup, Guttorm, 2000. "Competing for capital in a 'lumpy' world," Journal of Public Economics, Elsevier, vol. 78(3), pages 253-274, November.
  6. Ludema, Rodney D. & Wooton, Ian, 2000. "Economic geography and the fiscal effects of regional integration," Journal of International Economics, Elsevier, vol. 52(2), pages 331-357, December.
  7. Richard E. Baldwin & Toshihiro Okubo, 2014. "International Trade, Offshoring and Heterogeneous Firms," Review of International Economics, Wiley Blackwell, vol. 22(1), pages 59-72, 02.
  8. Trionfetti, Federico, 2001. "Public Procurement, Market Integration, and Income Inequalities," Review of International Economics, Wiley Blackwell, vol. 9(1), pages 29-41, February.
  9. Fredrik Andersson & Rikard Forslid, 2003. "Tax Competition and Economic Geography," Journal of Public Economic Theory, Association for Public Economic Theory, vol. 5(2), pages 279-303, 04.
  10. Andreas Haufler & Frank Stähler, 2013. "Tax Competition In A Simple Model With Heterogeneous Firms: How Larger Markets Reduce Profit Taxes," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 54(2), pages 665-692, 05.
  11. Wilson, John Douglas, 1999. "Theories of Tax Competition," National Tax Journal, National Tax Association, vol. 52(n. 2), pages 269-304, June.
  12. 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.
  13. Richard Baldwin & Toshihiro Okubo, 2005. "Heterogeneous Firms, Agglomeration and Economic Geography: Spatial Selection and Sorting," NBER Working Papers 11650, National Bureau of Economic Research, Inc.
  14. Ottaviano, Gianmarco & van Ypersele, Tanguy, 2002. "Market Access and Tax Competition," CEPR Discussion Papers 3638, C.E.P.R. Discussion Papers.
  15. Richard Baldwin & Toshihiro Okubo, 2009. "Tax Reform, Delocation, and Heterogeneous Firms," Scandinavian Journal of Economics, Wiley Blackwell, vol. 111(4), pages 741-764, December.
  16. Okubo, Toshihiro, 2009. "Trade liberalisation and agglomeration with firm heterogeneity: Forward and backward linkages," Regional Science and Urban Economics, Elsevier, vol. 39(5), pages 530-541, September.
  17. Wilson, John D., 1986. "A theory of interregional tax competition," Journal of Urban Economics, Elsevier, vol. 19(3), pages 296-315, May.
  18. Marc J. Melitz, 2003. "The Impact of Trade on Intra-Industry Reallocations and Aggregate Industry Productivity," Econometrica, Econometric Society, vol. 71(6), pages 1695-1725, November.
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