Multi-dimensional interjurisdictional competition and coordination

Doctoral thesis (2014)

The present dissertation aims to extend classical tax competition to a more general framework in which jurisdictions compete in both taxes and non-tax instruments. In this context, issues related to ... [more ▼]

The present dissertation aims to extend classical tax competition to a more general framework in which jurisdictions compete in both taxes and non-tax instruments. In this context, issues related to dynamic competition and tax coordination are investi- gated. Dynamic aspects of multi-dimensional competition. Under dynamic competition, firms choose their location dynamically in each period to maximize their respective profits. We develop a dynamic relocation rule of firms based on the home attachment prin- ciple. Applying this rule, dynamic competition in taxes and public services among unequally sized jurisdictions is investigated. We account for the widely recognized characteristic that small states are more flexible in their decision-making than larger economies. However, small countries may suffer from limited institutional capacity in the provision of public services. Consequently, small and large countries behave asym- metrically when they compete for internationally mobile capital. This heterogeneity is analyzed within a differential game framework. We demonstrate that in case of high capital mobility small economies may collapse economically if public services are inef- ficiently provided. When capital mobility is very low, a small state’s economy always expands despite its limited institutional capacity. Tax coordination aspects. When jurisdictions compete in taxes and infrastructure, the desirability of tax coordination is analyzed. The timing of the game is considered in two different ways, simultaneous and sequential games. Two tax coordination devices (a common tax rate and a minimum tax rate) are considered. We demonstrate that tax coordination does not necessarily generate the welfare effects often observed in pure tax competition literature. The reason is that the decision to coordinate on tax rate in- duces a carry-over effect on infrastructure expenditures. Moreover, we highlight that tax coordination is more likely to be detrimental when countries can compete simulta- neously in taxes and infrastructure, rather than sequentially.Then, we investigate whether partial tax coordination benefits the tax union (the in- siders) and/or the outsiders since tax coordination can be decided among a subset of countries that forms a tax union. The member states of the union coordinate tax poli- cies but still compete in infrastructure provision. In addition, the union as a whole competes in taxes and infrastructure with the rest of the world. We demonstrate that partial tax coordination can harm both union members and non-union members. This contrasts with the classical view that partial tax coordination is Pareto improving. Size effect on social welfare. Finally, we analyze how social welfare is impacted by in- creasing the size asymmetry of countries when they compete in taxes and infrastruc- ture. It appears that increasing size asymmetry does not necessarily exacerbate the inefficiency of tax competition. More precisely, if the degree of international openness is low (high), social welfare decreases (increases) with size asymmetry. [less ▲]

Who benefits from partial tax coordination?

E-print/Working paper (2013)

In this paper, we investigate whether partial tax coordination is beneficial to <br />countries within and outside a tax union, in which countries are supposed to compete <br />in taxes and infrastructure ... [more ▼]

In this paper, we investigate whether partial tax coordination is beneficial to <br />countries within and outside a tax union, in which countries are supposed to compete <br />in taxes and infrastructure. Our results demonstrate that, a subgroup of countries <br />agreeing on a common tax rate, can harm both member and nonmember <br />states. This is in contrast to the classical findings that partial tax harmonization <br />is Pareto improving. When a minimum tax rate is imposed within a tax union, we <br />demonstrate that it does not necessarily improve the welfare of the member countries. <br />Moreover, both the high tax and low tax countries can be worse off. This <br />conclusion is at odds with the classical result that a high tax country benefits from <br />the imposition of a lower tax bound. [less ▲]

On the desirability of tax coordination when countries compete in taxes and infrastructures

E-print/Working paper (2013)

In our paper we show that when countries compete in taxes and infrastructures, coordination through a uniform tax rate or a minimum rate does not necessarily create the welfare effects observed under pure ... [more ▼]

In our paper we show that when countries compete in taxes and infrastructures, coordination through a uniform tax rate or a minimum rate does not necessarily create the welfare effects observed under pure tax competition. The divergence is even worse when the competing jurisdictions differ in the quality of their institutions. If tax revenue is used to gauge the desirability of coordination, our model shows that imposing a uniform tax rate is Pareto-inferior to the non cooperative equilibrium when countries compete in taxes and infrastructures. This result is completely reversed with pure tax competition if countries are not too uneven in size. If a minimum tax rate lying between those resulting from the non-cooperative equilibrium is set, the low tax country will never be better off. Finally the paper shows that the potential social welfare gains from tax harmonization crucially depend on how heterogeneous the competing countries are. [less ▲]

Asymmetric Competition among Nation States: A Differential Game Approach

E-print/Working paper (2012)

This paper analyzes the impact of foreign investments on a small country's economy in the context of international competition. To that end, we model tax and infrastructure competition within a ... [more ▼]

This paper analyzes the impact of foreign investments on a small country's economy in the context of international competition. To that end, we model tax and infrastructure competition within a differential game framework between two unequally sized countries. The model accounts for the widely recognized characteristic that small states are more flexible in their political decision making than larger countries. However, we also acknowledge that small size is associated with limited institutional capacity in the provision of public goods. The model shows that the long-term outcome of international competition crucially depends on the degree of capital mobility. In particular, we show that flexibility mitigates against - but does not eliminate - the likelihood of collapse in a small economy. Finally, we note that the beneficial effect of flexibility in a small state increases with its inefficiency in providing public infrastructure and with the degree of international openness. [less ▲]