Asymmetric tax competition with public inputs and imperfect labour markets

- The paper examines efficiency in public input provision in two large jurisdictions with imperfect labour markets. - It analyses how equilibrium capital tax rates and public input provision levels differ between asymmetric jurisdictions that can strategically influence the interest rate on the common capital market in an international tax competition setting. - The corresponding lack in research and the motivation of the paper is explained in section 1 of the paper. - We use an international tax competition setting with public inputs (productive public goods) where regions are asymmetric (non-price-taking environment) and labour markets are distorted. - Decentralised jurisdictions maximise welfare of employed and unemployed individuals (benevolent governments). - Analysis of the decentralised Nash-equilibrium (Cournot-Nash), where policy makers select tax and expenditure instruments strategically to maximise the welfare in their region (for various tax games). - Comparative statics analysis of the reaction of capital and labour to a change in policy instruments: Public inputs, source-based capital taxes, head taxes. - Derivation of equilibrium capital tax rates, labour tax rates, and public input provision levels for different tax games. - The non-cooperative equilibrium is inefficient also when governments have capital and head taxes at disposal. - As a source of both the distortion in the capital allocation between jurisdictions and the inefficiency in public input provision, we identify the governments' incentives to decrease unemployment, as well as fiscal and pecuniary externalities. - Efficiency in public input provision can be restored, if the set of fiscal instruments available for regional policy makers is extended by a labour tax.