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Working Paper
Fiscal Federalism
Alejandro Esteller-Moré, Umberto Galmarini, Leonzio Rizzo

2015/21: Fiscal equalization under political pressures

We examine the design of fiscal equalization transfers aimed at inter- regional redistribution in a setting in which special interest groups distort the fiscal policies of local governments. Equity always calls for tax-base equalization while efficiency calls for tax-base equalization of fiscal capacities backed by strong lobby groups and for tax- revenue equalization of those backed by weak lobby groups. Hence, it is optimal to rely only on tax-base equalization if the special interest groups are similar in terms of lobbying power, whereas a mixed system is optimal if they are highly heterogeneous. Tax competition reinforces the role of tax-base, while tax exporting that of tax-revenue, fiscal equalization.

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