Journal Article

Remodeling the Competition for Capital: How Domestic Politics Erases the Race to the Bottom

BASINGER, SCOTT J., HALLERBERG, MARK

2004

Overview

This paper proposes and tests a new formal model of the competition for capital, using the analogy of a “tournament” as a substitute for the ”race-to-the-bottom” model. Our key insight is that political costs that accompany legislating have both direct and indirect effects on the likelihood and scale of reforms. While countries with higher political costs are less likely themselves to enact reforms, the presence of these costs also reduces competing countries' incentives to reform regardless of their own political costs. Domestic politics therefore mitigates the pressures for downward convergence of tax policy despite increased capital mobility. We examine the capital tax policies in OECD countries during the period from 1980 to 1997 and find that states are sensitive to tax reforms in competitor countries, although their responses to reforms are mediated by their own domestic costs to reform. We define two potential sources of political costs of reform: transaction costs, due to the presence of multiple veto players in the legislative process, and constituency costs, due to ideological opposition to policy changes that benefit capital. Our evidence reveals that a reduction in these costs either domestically or abroad increases the likelihood that a country enacts tax reforms.

• Publisher: Cambridge University Press,American Political Science Association
• Subject: Capital / Capital movement / Capital tax / Competition / Convergence / Corporate taxes / Costs / Domestic policy / Domestic politics / Economic competition / Economic models / Equilibrium / Finance Reform / Fiscal Policy / Globalization / Hypotheses / Income taxes / Indirect effects / Investment return rates / Investors / Legislative process / Mobility / Outcomes of Education / Policy making / Policy Reform / Political change / Political partisanship / Political science / Political systems / Politics / Production increases / Race / Reforms / Regulation / Studies / Tax policy / Tax rates / Tax reform / Taxation / Transaction costs / Vetoes