Working Paper: CEPR ID: DP2188
Authors: Hans Jarle Kind; Karen Helene Midelfart Knarvik; Guttorm Schjelderup
Abstract: This paper uses a new economic geography model to analyze tax competition between two countries trying to attract internationally mobile capital. Each government may levy a source tax on capital and a lump sum tax on fixed labor. If industry is concentrated in one of the countries, the analysis finds that the host country will gain from setting its source tax on capital above that of the other country. In particular, the host may increase its welfare per capita by setting a positive source tax on capital and capture the positive externality that arise in the agglomeration. If industry is not concentrated, however, both countries will subsidize capital.
Keywords: industrial agglomeration; economic geography; tax competition; economic integration
JEL Codes: F12; F15; H20
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Concentration of industry in one country (L69) | Host country can increase its welfare by setting a positive source tax on capital (F21) |
| Concentration of industry creates locational rents (R32) | Host country can increase its welfare by setting a positive source tax on capital (F21) |
| Interaction of trade costs and industry linkages (F12) | Host country can levy a higher tax without losing capital (F38) |
| Even distribution of industries (D39) | Both countries subsidize capital (P19) |
| Positive externalities from agglomeration (R32) | Higher taxation without adverse effects on capital inflow (F38) |