Spatial tax competition in the EU15.

Abstract

Tax competition in the European Union is ¯erce. Especially since the en-try of the new member States, tax reforms in the "old" Europe are frequent.In this paper we formally test the presence of strategic tax setting in the oldEU14 as a reaction to the tax rates in the new member states using a ¯scal re-action function. We ¯rst develop a simple model of spatial tax competition thatpredicts an inverse relationship between distance and toughness of tax compe-tition. Empirically we ¯nd indeed that tax competition is stronger for countriesrelatively closer to the low tax region of the new members like Germany andAustria than for old member States further away from the new member Statessuch as Spain, UK and Portugal.