economic integration and the welfare state. economic integration increasing mobility of people,...
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Economic Integration and the Welfare State
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Economic integration
• Increasing mobility of people, goods and factors of production institutions and policies through different channels.– Factor price equalization (e.g. Freeman)– Policy experimentation (e.g. Mukand and Rodrik)– System competition (e.g. Sinn)
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System competition• While competition among firms tends to be beneficial for the
general public, this is not necessarily so for the case of competition among governments.
• Sinn (1997): ”Since governments have stepped in where markets have failed, it can hardly be expected that a reintroduction of a market through the backdoor of systems competition will work. It is likely to bring about the same kind of market failure that justified government intervention in the first place.”
• Ex1 Public goods financed by a mobile tax base• Ex2 Redistributive taxation
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System competition cont.
• Tax competition model formalized by Zodrow and Mieszkowski (1986), but topic in public finance for a long time:
• Break, 1967: “Active tax competition, in short, tends to produce either a generally low level of state-local tax effort or a state-local tax structure with strong regressive features”.
• Oates, 1972: “The result of tax competition may well be a tendency toward less than efficient levels of output of local services”.
• But welfare consequences of tax competition is not trivial…• Brennan and Buchanan, 1980: ”The primary purpose of federalism … is to create
competition between jurisdictions”• Second best solution: Tax competition restrains a public sector that otherwise
would have been too large.
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Can the welfare state survive?
• The tendency to factor price equalization makes the income distribution in rich countries more unequal and increases the need for an active welfare state.
• But closer economic integration makes it more difficult to maintain the welfare state.– Each country has incentives to limit redistribution to
avoid attracting net recipients and repelling net contributors.
– In its most extreme form ’a race to the bottom’.
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Openness and government size
• Rodrik (1998) empirically investigates the relationship between openness and government spending.
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Openness and government size cont.
• This cross country relationship is robust to: – Including a set of control variables– Different measures of gov. Spending– Different subsamples (high and low income countries).– Excluding outliers
• Rodrik concludes that the association is not driven by omitted variables.
• The effect is strongest on transfer and social security spending.