Tax competition between sub-central governments

Abstract

Tax competition is a sensitive topic and views as to its merits vary widely. Some consider that it brings sub-central fiscal policy closer to what the public wants, increases the efficiency of the public sector, and tempers tax and spending excesses. Others argue that tax competition erodes the tax base, distorts the tax structure, and causes the under-provision of publicly financed services. This chapter finds that corporate and personal income taxes are more prone to tax competition than the property tax and consumption taxes. While tax rates tend to be lower in wealthier jurisdictions, there is little evidence that tax rates and tax revenues race to the bottom. Inter-jurisdictional differences in tax-raising capacity – or economic wealth – appear to be lower in countries with more tax competition. This chapter also observes that tax autonomy and tax competition provide incentives for economic development, especially in small and poor jurisdictions. In that light, it makes a number of recommendations to governments wishing to reap the benefits of tax competition while avoiding its drawbacks.