How Socialization Attenuates Tax Competition

Abstract

Tax competition is the quintessential example of policy interdependence. The general idea is that tax changes in one jurisdiction lead to similar changes in others. However, research has shown that institutional and political constraints limit competition. This article develops another argument: that socialization among policy makers attenuates competitive dynamics by setting limits to the extent of competition that is considered acceptable. Using fine-grained Swiss data and spatial econometric techniques, it shows that personal income tax rates are more strongly correlated among competitors that do not participate in the same intergovernmental organizations. This finding implies that, to some extent, the detrimental consequences of competition can be mitigated by fostering institutionalized forms of interaction among policy makers.

The Cooperative Capacity of Swiss Federalism

“…Building on the findings of the NFA analysis, the spatial econometric investigation of the temporal variation in tax competition suggests that tax competition was at the lowest level during the period of intense inter‐cantonal cooperation (1999–2004), which indicates that the pooling of cantonal interests in the NFA may have had an attenuating effect on tax competition. The presented empirical results of the NFA and of the tax competition analyses are in line with the findings of the more recent literature on Swiss federalism (Bochsler, ; Füglister, ; Gilardi and Wasserfallen, ). Over the last 25 years, inter‐cantonal cooperation has strongly intensified.…”

“…Most importantly, the NFA is directly connected to tax competition because a major objective of the NFA is to adjust tax competition with the revised fiscal equalization system. The presented findings and the work of Gilardi and Wasserfallen () suggest that cooperation among the cantons might have had an impact on tax competition dynamics. If that is the case, we should find attenuating effects particularly during the core negotiation and the approval stages.…”

“…The research of economists, as summarized above, indicates that taxation is the most pronounced arena of inter‐cantonal competition (Feld and Reulier, ; Brülhart and Parchet, ). However, even in that policy area, joint membership in inter‐cantonal conferences can have attenuating effects on competition (Gilardi and Wasserfallen, ).…”

“… To address the endogeneity concern that the number of commuters could be influenced by tax rates, Gilardi and Wasserfallen () use the 1990 census data to construct the spatial lags from 1990 to 1998 and the 2000 census data for the spatial lags from 1999 to 2007. …”

Contextual variation in interdependent policy making: The case of tax competition

“…But which cantons are considered to be competitors? Policy makers typically regard nearby jurisdictions, to which some of their taxpayers might easily move if tax differences change, as competitors (Feld & Reulier ; Gilardi & Wasserfallen forthcoming). Based on that proposition, I construct a connectivity matrix with exceptionally fine‐grained travel data from the Federal Office for Spatial Development, assuming that the faster a canton can be reached, the higher the perceived competition pressure stemming from it.…”