Agglomeration, tax competition, and fiscal equalization
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This paper analyzes the impact of fiscal equalization on asymmetric tax competition when positive agglomeration externalities are present. It uses a model focusing on the strategic reason for capital taxes to demonstrate that per capita fiscal capacity equalization improves the spatial allocation of capital provided a sufficiently rich (marginally) larger region and sufficiently strong agglomeration externalities. If tax revenue is used to finance public goods, per capita fiscal capacity equalization generally cannot simultaneously eliminate public good inefficiency and spatial inefficiency. However, the achievement of full efficiency for ex ante identical regions requires excessive (full) equalization in the presence (absence) of agglomeration externalities.
KeywordsAgglomeration Tax competition Fiscal equalization
JEL ClassificationR12 H71 H73
A previous version of the paper was presented at PET 2009, at the annual conference of the Verein für Socialpolitik 2009, at a research seminar at the Barcelona Institute of Economics (IEB). Participant comments are appreciated. I have also greatly benefited from the comments of the co-editor of this journal, Eckhard Janeba, and two anonymous reviewers.
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