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The Politics of 1992: Fiscal Policy and European Integration

  • Torsten Persson
  • Guido Tabellini

The internal market in Europe will greatly increase the international mobility of resources. How will this affect fiscal policy in different countries? The first part of the paper considers taxation of capital in a two country model, where a democratically chosen government in each country chooses tax policy. Higher capital mobility changes the politico-economic equilibrium in two ways. On the one hand, it leads to more tax competition between the countries: this "economic effect" tends to lower both countries' tax rates. On the other hand, it alters voters' preferences and make them elect a different government: this "political effect" offsets the increased tax competition, although not completely so. The second part of the paper considers taxation of labor, in a model where labor is internationally immobile. Eliminating the remaining barriers' to trade in goals, changes the distribution of labor earnings in the economy, which again has a political, as well as an economic effect. And again the economic and political effects push the tax rates in different directions, but here the political effect can prevail. The tendency for an adapting political equilibrium to preserve the status quo, thus emerges as a general result of the paper.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 3460.

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Date of creation: Oct 1990
Date of revision:
Publication status: published as Review of Economic Studies, Vol. 59 (1992): 689-702.
Handle: RePEc:nbr:nberwo:3460
Note: ITI IFM
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  1. Wildasin, David E., 1988. "Nash equilibria in models of fiscal competition," Journal of Public Economics, Elsevier, vol. 35(2), pages 229-240, March.
  2. Gordon, Roger H, 1983. "An Optimal Taxation Approach to Fiscal Federalism," The Quarterly Journal of Economics, MIT Press, vol. 98(4), pages 567-86, November.
  3. Meltzer, Allan H & Richard, Scott F, 1981. "A Rational Theory of the Size of Government," Journal of Political Economy, University of Chicago Press, vol. 89(5), pages 914-27, October.
  4. Alberto Giovannini & James R. Hines, Jr., 1990. "Capital Flight and Tax Competition: Are There Viable Solutions to Both Problems?," NBER Working Papers 3333, National Bureau of Economic Research, Inc.
  5. Vickers, John, 1985. "Delegation and the Theory of the Firm," Economic Journal, Royal Economic Society, vol. 95(380a), pages 138-47, Supplemen.
  6. Grandmont, Jean-Michel, 1978. "Intermediate Preferences and the Majority Rule," Econometrica, Econometric Society, vol. 46(2), pages 317-30, March.
  7. Peter A. Diamond, 1982. "Protection, Trade Adjustment Assistance, and Income Distribution," NBER Chapters, in: Import Competition and Response, pages 123-150 National Bureau of Economic Research, Inc.
  8. Persson, Torsten & Tabellini, Guido, 1994. "Representative democracy and capital taxation," Journal of Public Economics, Elsevier, vol. 55(1), pages 53-70, September.
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