Alternative tax constitutions and risky education in a federation

Abstract

I analyze a two-period model in which risk-averse students divide their time between risky education, leisure, and work. The educated can migrate. Wage-tax financed transfer to students acts as an insurance, and increases both human capital investment and demand for leisure. I derive sufficient conditions for tax competition to lead to inefficiently low wage tax rates. I suggest that the educated should pay their wage taxes to the region which has financed their education. I show that this would increase taxation and human capital investment, and would also benefit the owners of the complementary factor.