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(Uncontrolled) Aggregate shocks or vertical tax interdependence? Evidence from gasoline and cigarettes

  • Alejandro Esteller-Moré


    (Universitat de Barcelona & IEB)

  • Leonzio Rizzo


    (Università di Ferrara & IEB)

Besley and Rosen (1998) were the first authors to empirically estimate the presence of vertical tax externalities. They tested it on gasoline and tobacco unitary taxes. However, they did not take into account the difference in cost of living across states: high cost areas pay less in real terms than low cost areas, since the nominal unit tax on cigarettes and gasoline does not differ according to the state in which it is applied. Consequently, we propose that vertical tax competition can be estimated by deflating all financial variables using the House Price Index (HPI), which is disaggregated by states. This produces a federal tax variable that is expressed in real terms and shows cross-sectional variation. This empirical strategy enabled us to disentangle the vertical interdependence between state and federal tax rates from aggregate shocks over time, using US data from 1975 to 2006 on gasoline and tobacco. We found significant horizontal tax competition, which was higher for cigarettes, but no vertical tax reaction. The results were robust to the period analyzed.

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Paper provided by Institut d'Economia de Barcelona (IEB) in its series Working Papers with number 2009/24.

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Length: 32 pages
Date of creation: 2009
Date of revision:
Handle: RePEc:ieb:wpaper:2009/10/doc2009-24
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  1. Besley, Timothy J. & Rosen, Harvey S., 1998. "Vertical externalities in tax setting: evidence from gasoline and cigarettes," Journal of Public Economics, Elsevier, vol. 70(3), pages 383-398, December.
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  7. Craig Brett & Joris Pinkse, 1997. "Those Taxes are all over the Map! A Test for Spatial Independence of Municipal Tax Rates in British Columbia," International Regional Science Review, , vol. 20(1-2), pages 131-151, April.
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  16. Fredriksson, Per G. & Mamun, Khawaja A., 2008. "Vertical externalities in cigarette taxation: Do tax revenues go up in smoke?," Journal of Urban Economics, Elsevier, vol. 64(1), pages 35-48, July.
  17. Rizzo, Leonzio, 2006. "Local government responsiveness to federal transfers: theory and evidence," MPRA Paper 5373, University Library of Munich, Germany.
  18. Rosen, Harvey S., 1979. "Housing decisions and the U.S. income tax : An econometric analysis," Journal of Public Economics, Elsevier, vol. 11(1), pages 1-23, February.
  19. Joseph Gyourko & Christopher Mayer & Todd Sinai, 2013. "Superstar Cities," American Economic Journal: Economic Policy, American Economic Association, vol. 5(4), pages 167-99, November.
  20. Morris A. Davis & Michael G. Palumbo, 2006. "The price of residential land in large U.S. cities," Finance and Economics Discussion Series 2006-25, Board of Governors of the Federal Reserve System (U.S.).
  21. Nickell, Stephen J, 1981. "Biases in Dynamic Models with Fixed Effects," Econometrica, Econometric Society, vol. 49(6), pages 1417-26, November.
  22. Rork, Jonathan C., 2003. "Coveting Thy Neighbors' Taxation," National Tax Journal, National Tax Association, vol. 56(4), pages 775-87, December.
  23. Louis Kaplow, 1995. "Regional Cost-of-Living Adjustments in Tax-Transfer Schemes," NBER Working Papers 5008, National Bureau of Economic Research, Inc.
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