Fiscal transfer under tax and infrastructure competition

ABSTRACT

Interjurisdictional fiscal transfer is generally divided into special transfer payments and general transfer payments. We analyse the welfare implications of these two types of transfer within the framework of tax and infrastructure competition for capital among jurisdictions. The results show that when the decline rate of marginal productivity of capital is low, special transfer payments generate a higher level of social welfare than the general transfer regime if the fiscal transfer is sufficiently large. However, when the decline rate of marginal productivity is high, general transfer payments always dominate the special transfer regime in terms of welfare.

KEYWORDS:

• Special transfer payments
• general transfer payments
• social welfare
• jurisdictional competition

JEL CLASSIFICATION:

• H73
• H77
• F21

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

¹ Notable examples of theoretical research using both taxes and infrastructure investments to attract FDI include (Zissimos and Wooders 2008; Hindriks, Peralta, and Weber 2008; Pieretti and Zanaj 2011; Hauptmeier, Mittermaier, and Rincke 2012).

² Similar assumptions are made in other studies, for example, (Carsten et al. 2021).

³ There is no balanced budget condition in our framework. We assume that the governments’ budget is balanced by lump-sum taxation from the immobile domestic factors.

⁴ It is easy to verify that the second order conditions are satisfied.

⁵ All calculations involved in this paper can be provided upon request.

⁶ It is generally believed that fiscal transfer is to reduce income disparities among jurisdictions, not to reverse them.