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Competition for foreign capital: Endogenous objective, public investment and tax

Author

Listed:
  • Rupayan Pal

    (Indira Gandhi Institute of Development Research)

  • Ajay Sharma

    (Indira Gandhi Institute of Development Research)

Abstract

In this paper we endogenize the objective functions of the regions as well as their decision to provide public investment in a model of competition for foreign owned mobile capital. We demonstrate that the competing regions can `restrict race-to-the-bottom' in tax rates by deviating away from social welfare to net tax revenue. It is optimal for a region to be fully revenue oriented even if that region's ultimate goal is to maximize social welfare, irrespective of whether the rival region is concerned about social welfare or net tax revenue. Moreover, we demonstrate that the regions have unilateral incentive to spend on public investment, except in case of perfect spillover. In equilibrium, both the regions spend on public investment and end up with Pareto inferior outcomes.

Suggested Citation

  • Rupayan Pal & Ajay Sharma, 2011. "Competition for foreign capital: Endogenous objective, public investment and tax," Indira Gandhi Institute of Development Research, Mumbai Working Papers 2011-021, Indira Gandhi Institute of Development Research, Mumbai, India.
    • Handle: RePEc:ind:igiwpp:2011-021
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    More about this item

    Keywords

    Mobile Capital; Tax Competition; Public Investment; Revenue Orientation; Social Welfare;
    All these keywords.

    JEL classification:

    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
    • H25 - Public Economics - - Taxation, Subsidies, and Revenue - - - Business Taxes and Subsidies
    • R50 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - Regional Government Analysis - - - General
    • H40 - Public Economics - - Publicly Provided Goods - - - General
    • D60 - Microeconomics - - Welfare Economics - - - General

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