This paper exploits an exogenous reform in Portugal to study yardstick competition among local governments in setting the local business tax rate. The reform universalizes the local business tax rate to all municipalities, whereas previously this instrument was only available to local governments involved in ﬁnancial stability pacts or in need of raising ﬁscal capacity. Relying on a difference-in diﬀerences (diff-in-diff) framework, this paper studies whether municipalities neighboring the ones that levied a local business tax already in the pre-reform period make a signiﬁcantly different use of this new ﬁscal instrument vis-a-vis non-neighboring municipalities. Results show that neighboring municipalities are signiﬁcantly more likely to levy the business tax rate in the aftermath of the reform. Tax rates levied in neighboring municipalities are also on average signiﬁcantly higher and raise signiﬁcantly more revenues. Evidence of signiﬁcant treatment effects decreases over time and in particular after the ﬁrst election under the new local ﬁnances reform. This paper shows that the mechanism behind these dynamics appears to be electoral results. In particular, local business taxation depends on the victory margin of the incumbent, but appears to have no impact on the probability of his/her re-election.
09.02.2017 | 14:00-15:30
ZEW, L 7,1 D-68161 Mannheim