| State and local governments often compete against each other by reducing taxes on property in an effort to raise wages and/or employment, and to increase the local tax base. A large literature has employed a framework of full employment to show that a system of competing local governments underprovide public goods. This dissertation relaxes that full-employment assumption and examines the effect of unemployment on tax competition by using two unemployment models: a fixed-wage model and an efficiency wage model.;Similar findings are reached for both models in the many-region case. With locally-owned factors of production, unemployment increases wasteful competition by local governments because a distortion occurs in the labor market in addition to the outflow of capital. In the unemployment economy, each local government will levy a lower tax rate on capital, and provide a lower public good level than in the full-employment economy. When outsiders own the immobile factor, local governments might try to exploit the opportunity of "tax exporting" by levying a higher tax rate on capital and overproviding public goods.;A study of the case of large-size local governments shows that the optimal tax rate increases with the size of each region in the unemployment economy, because each region has more influence over the after-tax return to capital. The study indicates that local governments can improve welfare by coordinating their policies. This research also uses some numerical simulations to support the above findings. Some limitations and future extensions are mentioned in the last part of this research. |
