Fiscal Equalization and Tax Enforcement

Abstract

In many countries organized as federations, fiscal equalization schemes have been implemented to mitigate vertical or horizontal imbalances. Such schemes usually imply that the member states of the federation can only partly internalize (marginal) tax revenue before redistribution. Aside from the internalized marginal revenue, referred to as the marginal tax‐back rate, the remainder is redistributed. We investigate the extent to which state‐level authorities in such federation under‐exploit their tax bases. By means of a stylized model, we show that the member states have an incentive to align the effective tax rates on their residents with the level of the marginal tax‐back rate. We empirically test the model using state‐level and micro‐level taxpayer data, OLS regressions and natural experiments. Our empirical findings support the results from our theoretical model. Particularly, we find that states with a higher marginal tax‐back rate exploit the tax base to a higher extent.

Skimming the Achieved? – Quantifying the Fiscal Incentives of the German Fiscal Equalization Scheme and its Reforms since 1970

“…Our simulation model is based on a methodology of the German Council of Economic Experts (GCEE 2014) and the existing literature (Baretti et al 2002;Buettner 2006;Boenke et al 2017). After replicating the calculation of all equalization payments between the federal level and the states based on the actual revenues of each state in each year [7], we apply the following two steps, which are applied separately for each state.…”

Cyclical Tax Enforcement

“…But, as we said before, tax enforcement policies carried out by the tax administration might be linked to the economic cycle. Furthermore, recent empirical studies suggest that political as well as budgetary variables play a role in determining tax administration's enforcement efforts (see, e.g., Baretti, Huber, and Lichtblau ; Bönke, Jochimsen, and Schröder ; Esteller‐Moré , ; Young, Reksulak, and Shughart II ).…”

Federalism in Germany, Italy, and the European Union: History, Characteristics, and Perspectives

“…For transfer-receiving states, it is often even higher. Raising one more Euro income tax makes them slightly richer, and transfers to them are reduced by almost 90 cents (Bönke et al 2017). Obviously, Länder are tempted to not collect income tax (properly), because being "generous" concerning inhabitants' tax avoidance strategies might buy the incumbent government more votes than spending the remaining collected 10 cents on public goods (Jochimsen 2008, p.545).…”