Endogenizing leadership in tax competition: a timing game perspective

Hubert Kempf () and Grégoire Rota Graziosi

Working papers from Banque de France

Abstract: In this paper we extend the standard approach of horizontal tax competition by endogenizing the timing of decisions made by the competing jurisdictions. Following the literature on the endogenous timing in duopoly games, we consider a pre-play stage, where jurisdictions commit themselves to more early or late, i.e. to fix their tax rate at a first or second stage. We highlight that at least one jurisdiction experiments a second-mover advantage. We show that the Subgame Perfect Equilibria (SPEs) correspond to the two Stackelberg situations yielding to a coordination problem. In order to solve this issue, we consider a quadratic specification of the production function, and we use two criteria of selection: Pareto-dominance and risk-dominance. We emphasize that at the safer equilibrium the less productive or smaller jurisdiction leads and hence loses the second-mover advantage. If asymmetry among jurisdictions is sufficient, Pareto-dominance reinforces risk-domination in selecting the same SPE. Three results may be deduced from our analysis: (i) the downward pressure on tax rates is less severe than predicted; (ii) the smaller jurisdiction leads; (iii) the 'big-country-higher-tax-rate' rule does not always hold. Classification-JEL: H30, H87, C72.

Keywords: Endogenous timing; tax competition; first/second-mover advantage; strategic complements; stackelberg; risk dominance. (search for similar items in EconPapers)
Pages: 34 pages
Date: 2010
New Economics Papers: this item is included in nep-acc, nep-gth and nep-pbe
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (67)

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