Public good provision and progressive income taxation in a spatial economy

This paper considers how mobility in an economy with multiple types of workers of varying income levels affects the ability of regional governments to implement progressive tax policies. We develop a two-region spatial equilibrium model in which external economies arise through the provision of a local public good funded by skill-specific income taxes. Regional governments have redistributive preferences and compete over tax rates to attract workers. In this economy, the region with a larger number of both types of workers will have more progressive tax policies and higher public good levels than in the less populated region. Tax rates are more progressive the stronger the dispersion forces in the economy. These results are then compared to a cooperative tax policy setting. Tax rates are always more progressive under a cooperative tax regime compared to a competitive one; however, the difference narrows the stronger the dispersion forces. Finally, the model is extended to consider agglomeration economies in production and imperfectly elastic labor supply. Agglomeration economies lead to less progressive tax policies while imperfectly elastic labor supply may lead to more or less progressive tax policies depending on how strongly workers value the public good.