Working Paper: CEPR ID: DP5761
Authors: Paola Conconi; Carlo Perroni; Raymond Riezman
Abstract: We consider a setting in which capital taxation is characterized by two distortions working in opposite directions. On one hand, governments engage in tax competition and are tempted to lower capital tax rates. On the other hand, they are unable to commit to future policies and, once capital has been installed, have incentives to increase taxes. In this setting, there exists a tax that optimally trades off the two distortions. We compare three possible tax harmonization scenarios: no tax harmonization (all countries set taxes unilaterally), global tax harmonization (all countries coordinate their capital taxes), and partial tax harmonization (only a subset of all countries coordinate capital taxes). We show that, if capital is sufficiently mobile, partial tax harmonization benefits all countries compared to both global and no harmonization. Our analysis provides a rationale for the proposed creation of an Enhanced Cooperation Agreement on capital taxes within the European Union.
Keywords: commitment; partial coordination; tax competition
JEL Codes: C73; F21; H21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Partial tax harmonization (H29) | benefits all countries (F69) |
| Partial tax harmonization (H29) | reduces harmful tax competition (H26) |
| Reduced harmful tax competition (H26) | better overall welfare outcomes (D69) |
| Global tax harmonization (F38) | lower levels of investment (G31) |
| Global tax harmonization (F38) | higher labor taxation (H31) |
| Partial tax harmonization (H29) | desirable outcome (L21) |
| Tax competition (H26) | time inconsistency problems (D15) |