Self-enforcing capital tax coordination

Abstract

Capital tax competition is known to result in inefficiently low tax rates and an undersupply of public goods. The provision of public goods and with it the welfare of all countries can be enhanced via tax coordination. Based on the standard Zodrow-Mieszkowski-Wilson tax-competition model this paper analyzes the conditions under which tax coordination by a group of countries is self-enforcing. In our analytical framework, there always exists a rather small stable tax coalition. For some subset of the parameter space the grand coalition is stable, even if the total number of countries is large. If the stable coalition is small, it is not very effective in mitigating the inefficiency of the non-cooperative Nash equilibrium. The ineffectiveness is increasing in the total number of countries.