Tax Competition, Elastic Labor Supply, And Growth

In this paper, the authors investigate the effects of tax competition in a simple endogenous growth model with elastic labor supply. The analysis focuses on two issues. First, they show that all taxes, i.e. on capital, labor, and consumption, are harmful for growth. Second, they derive the optimal tax policy. A regional government chooses an inefficiently low tax rate on mobile capital in the presence of tax competition. In contrast, the tax rates on labor income and consumption are always set in order not to distort the consumption-leisure choice.