Fiscal Incentives in Fiscal Federalism: Analysis of Germany s Fiscal Equalization Scheme

Transcription

1 Fiscal Incentives in Fiscal Federalism: Analysis of Germany s Fiscal Equalization Scheme International Atlantic Economic Society (IAES) 82nd International Conference 2016 Washington D.C., October 16, 2016 André W. Heinemann and Andreas Knorr University of Bremen / German University of Administrative Sciences Speyer

2 Outline 1. Introduction and Motivation 2. Discussion on Fiscal Incentives in Fiscal Federalism 3. Brief Introduction in German Fiscal Equalization Scheme 4. The Effects of the Fiscal Equalization Scheme on Fiscal Backflows 5. Theoretical Implications 6. Conclusions

3 Motivation Fiscal incentives are highly discussed in literature and play a crucial role for the analysis of successful activities in the fields of decentral economic and financial policy. Most contributions assume a negative correlation between strong fiscal equalization among regions and the motivation of regions to foster region s economic performance. A common thesis is that the higher the degree of transfers and the lower the rate of fiscal returns, the lower is the readiness of regional political decision-makers to invest. Thereby, it is common to assume: The degree of fiscal transfers and the rate of fiscal returns matter. Research questions: Does the difference in the rates of fiscal returns among regions matter? Can the difference explain divergence in regional economic development? 1

4 Economic Incentives and (Regional) Financial Policy Thesis in literature: Federal system of Germany (Cooperative Federalism) weakens economic growth and has negative impacts on job creation, tax revenues and provision of publicly funded goods (in particular public goods). For example: German Council of Economic Experts (2001), Annual Economic Report 2001/2002. Berthold, Drews and Thode (2001) In particular, low fiscal incentives reduce the motivation of Laender governments for policy to drive economic growth. Low fiscal insentives lead to rentier behavior of Laender and it follows a persistant and increasing transfer system from economic strong regions to economic weak regions. 2

5 Economic Incentives and (Regional) Financial Policy Analysis of negative effects of the German fiscal equalization scheme: Negative effects on tax administration and economic growth Söllner, F. (2001), Die Anreizwirkungen des Länderfinanzausgleichs, Konjunkturpolitik 47(3), Negative effects on effective tax rates Bönke, T., Jochimsen, B. and C. Schröder (2013), Fiscal Federalism and Tax Administration. DIW Discussion paper No Negative effects on fiscal discipline and pro-cyclical policies in net-recipient Laender Stehn, S. J. and a. Fedelino (2009), Fiscal Incentive Effects of the German Equalization System. IMF Working paper No. 09/124. 3

6 Decentralized Financial Policy, Cost-Benefit-Decision, and Fiscal Incentive MB MC MC i MB S C A MB i B g i g S g Source: Following Berthold and Fricke (2007: 7; 2009: 12). 4

7 Tax Competition in Multilevel Systems and Fiscal Incentives x a a a U U U a b a b Fiscal equalization x B x C x A B C A b b g B g C g A b Source: Following Wellisch, Dietmar (2004), Public Finance in a Federal State. Cambridge University Press, 65. g 5

8 Multidimensonality of Political Goals and Other Arguments Political-administrative decision-makers are interessted in new jobs for citizens better possibilities of consumption for citizens, better living conditions for citizens If a political investment promises one or more goals shown above, fiscal returns play a secondary role or does not matter. Other arguments: Specific fiscal arragments and tax administration rules Tax havens Effectiviness of economic and financial policy 6

9 Determinants of Regional Economic Power Regional Economic Power Low impact of Laender High impact of Laender Geographical Location Urbanization Sektoral Structur Transport Infrastructure Human Capital/ Knowledge General Economic Policy Social Capital Source: Blume, Lorenz and Thomas Döring (2009), Unterschiede regionaler Wirtschaftskraft welchen Einfluss hat die Landespolitik? Jahrbuch für Regionalwissenschaften 29 (2), S

10 Empirical Findings of Blume and Döring (2009) n = 112 Labor Market Regions in Germany (1) (2) (3) (4) (5) (6) Schiffbare Flüsse (Dummy) 1008 (0,60) 805,5 (0,68) 295,2 (0,28 Lage an Ostgrenze (Dummy) ( * ) (1,74) -194,4 (0,13) (1,33) Landeshauptstadt (Dummy) 9327** (3,62) 5710** (2,88) 5734** (3,10) Niederschlag (mm pro Jahr) -2,22 (0,63-3,73 (1,37) -1,97 (0,75) Faktor Agglomeration 1274 ( *) (1,73) 176,6 (0,25) 1321 (1,61) Land-/ Forstwirtschaft/ Fischerei (1,18) ( *) (1,72) (0,30) Altindustrien verarbeitendes Gewerbe ** (3,81) ** (4,05) ** (3,47) Baugewerbe ** (3,04) * (2,02) (2,29) Verkehr/ Nachrichtenübermittlung (1,61) ( * ) (1,72) (1,61) Kredit/ Versicherungsgewerbe ** (6,54) ** (4,46) ** (3,23) Dienstleistungen ** (3,33) ** (3,08) ** (3,78) Organisationen * (1,97) ( * ) (1,90) * (2,31) Körperschaften/ Sozialversicherungen ** (3,62) ** (2,51) ( * ) (1,80) 8

11 Empirical Findings of Blume and Döring (2009) n = 112 Labor Market Regions in Germany (1) (2) (3) (4) (5) (6) Interesse für Politik (1-4) ** (3,20) ** (2,93) * (2,22) Kirchgangshäufigkeit (in %) 216,3* (2,30) 208,2* (2,53) 151,56* (1,71) Parteimitgliedschaft -267,7** (3,19) -177,86** (2,74) -131,53 ( * ) (1,71) Faktor Verkehr Faktor Wissen Bayern (Dummy) Baden-Württemberg (Dummy) Hessen (Dummy) Schleswig-Holstein/ Hamburg Niedersachsen/ Bremen 1399* (2,19) 4231** (6,62) -484,5 (0,71) 1352,3 ( * ) (1,87) 6839** (4,47) 1746 (1,01) 6839** (3,55) 5339 ( * ) (1,85) 989,4 (0,59) Konstante R² 0,243 0,581 0,160 0,711 0,308 0,794 Die Tabelle zeigt die β-koeffizienten der Regression, die Zahlen in Klammen sind die absoluten t-werte basierend auf White-heteroskedastizitätskonsistenten Standardfehlern. **, * oder ( * ) zeigen an, dass die geschätzten Parameter signifikant von Null verschieden sind auf dem 1, 5 oder 10 Prozentniveau. 9

12 Findings of Blume and Döring (2009) In an isolated analysis, approximately 25 % of differences in regional GDP per capita in Germany can be explained by geographical differences and differences in settlement. Approximately 71 % of differences in regional economic power can be explained by geography, settlement structure, sectoral structure and social capital. Hierbei handelt es sich ausnahmslos um zeitlich sehr persistente Faktoren, auf die die Bundesländer mit ihrer Wirtschaftspolitik kurz- und mittelfristig nur in einem äußerst geringen Ausmaß Einfluss nehmen können. (Blume and Döring 2009, 117). Approximately 30 % of differences in regional economic power per capita can be explained by impacts of regiona economic and financial policies, e.g. transport policy and science policy. However, der Einfluss dieser Faktoren geht aber deutlich zurück, wenn die anderen Determinanten regionaler Wirtschaftskraft ebenfalls berücksichtigt werden. (Blume and Döring 2009, 117). 10

13 Population Department III: Population of German Laender Relation Largest to smallest state Germany 27 to 1 Austria 6 to 1 US 67 to 1 Switzerland 91 to 1 EU 189 to Source: Federal Statistical Office; Own diagram. 11

14 GDP (in current prices) per capita in Euro Department III: Economic power of German Laender Average: 37,099 Euro per capita Source: Working group National Accounts of the Federal States, Gross domestic product, Gross value added ( ) 1991 to 2015, series 1, Laender results Vol. 1, August 2015/ February 2016; Own diagram. 12

15 Fiscal equalization scheme in Germany Four stages Vertical Tax sharing (Art. 105, 106 Basic Law) Horizontal Tax allocation (Art. 107(1) Basic Law) Horizontal Fiscal equalization among Laender (Länderfinanzausgleich i.e.s.) (Art. 107(2) Basic Law) Vertical Supplementary federal grants (Bundesergänzungszuweisungen) (Art. 107(2) sentence 3 Basic Law) 13

16 Tax revenue assignment in Germany Shares in % Laender taxes 3,0% Costums duties Local authority taxes 0,8% 9,0% Total tax revenue in Germany 2015: bn Federal taxes 15,5% bn bn Joint taxes 71,8% 14

17 Economic problems of the German fiscal equalization scheme The German fiscal equalization scheme equalsizes the disparate financial capacities of the Laender on a very high level. Laender have extremly limited taxation power and most of the expenditure structure is given by federal law. This lead to an impossibility to consider the citizens preferences and to tailor public funded goods and services. Laender are faced by a transfer system which equalizes away the benefits from independent developing an above average capacity to raise own revenue. A systemic problem is a lack of predictability of fiscal returns from regional economic and financial policies. The single tax competence for the German Laender (Real estate transfer tax) is problematically to a high degree. 15

18 Financial capacity per capita in Euro Department III: Fiscal power 1) of Laender 2) Before Horizontal FCE % HH HB BE BY HE BW MV BB NI NW RP SH ST SL SN TH 1) Financial capacity per real inhabitant. 2) Laender including municipalities. Source: Federal Ministry of Finance (2016), provisional fiscal equalization settlement for the year 2015; Own calculations; Own diagram. 16

19 Financial capacity per capita in Euro Department III: Fiscal power 1) of Laender 2) After Horizontal FCE and GSFG 3) % % HH HB BE BY HE BW MV BB NI NW RP SH ST SL SN TH 1) Financial capacity per real inhabitant. 2) Laender including municipalities. 3) General supplementary federal grants. Source: Federal Ministry of Finance (2016), provisional fiscal equalization settlement for the year 2015; Own calculations; Own diagram. 17

20 Marginal fiscal backflow in % of additional tax revenue Department III: Marginal fiscal backflow 1) of Laender taxes From additional 1 Mill. Euro tax revenue of Laender taxes in a state (e.g. Heritage and gift tax or Real property transfer tax) ceteris paribus in the state budget (including so-called premium model ) remain in percentage BW HH BY HE NI NW RP BB ST TH MV BE SN SH SL HB 1) Base: Final fiscal equalization settlement for the year 2012 (Federal Council ( Bundesrat ) Journal No. 681/13); Including General supplementary federal grants. Source: Final fiscal equalization settlement for the year 2012 (BR-Drs. 681/13); Own calculation; Own diagram. 18

21 Marginal fiscal backflow in % of additional tax revenue Department III: Marginal fiscal backflow 1) of Laender taxes From additional 1 Mill. Euro tax revenue of Laender taxes in a state (e.g. Heritage and gift tax or Real property transfer tax) ceteris paribus in the state budget (including so-called premium model ) remain in percentage BW HH BY HE NI NW RP BB ST TH MV BE SN SH SL HB 1) Base: Final fiscal equalization settlement for the year 2013 (Federal Council ( Bundesrat ) Journal No. 425/14); Including General supplementary federal grants. Source: Final fiscal equalization settlement for the year 2013 (BR-Drs. 425/14); Own calculation; Own diagram. 19

22 Marginal fiscal backflow in % of additional tax revenue Department III: Marginal fiscal backflow 1) of Laender taxes From additional 1 Mill. Euro tax revenue of Laender taxes in a state (e.g. Heritage and gift tax or Real property transfer tax) ceteris paribus in the state budget (including so-called premium model ) remain in percentage BW HH BY HE NI NW RP BB ST TH MV BE SN SH SL HB 1) Basis: Provisional fiscal equalization settlement for the year 2014; Including General supplementary federal grants. Source: Provisional fiscal equalization settlement for the year 2014; Own calculation; Own diagram. 20

23 Marginal fiscal backflow in % of additional tax revenue Department III: Marginal fiscal backflow 1) of Laender taxes From additional 1 Mill. Euro tax revenue of Laender taxes in a state (e.g. Heritage and gift tax or Real property transfer tax) ceteris paribus in the state budget (including so-called premium model ) remain in percentage BW HH BY HE NI NW RP BB ST TH MV BE SN SH SL HB 1) Basis: Provisional fiscal equalization settlement for the year 2015; Including General supplementary federal grants. Source: Provisional fiscal equalization settlement for the year 2015; Own calculation; Own diagram. 21

24 Theoretical framework Two juridictions (1 and 2) with difference in population size. Identical linear-homogenous regional production function F i (K i, L i ). Fixed capital stock. Equalization scheme equals differences in per capita fiscal capability. No tax autonomy, just expenditure autonomy. Tax on capital τ i K is set federal wide on the same level by federal government. Fiscal backflow shall influence the effective tax rate through public expenditures which mean higher benefits φ. τ i K eff. = τ i K φ i 22

25 Theoretical framework We assume that jurisdiction 1 is economically weak and jurisdiction 2 is economically strong. This causes different fiscal backflow rates and the fiscal backflow rate of jurisdiction 2 is higher than the fiscal backflow rate in jurisdiction 1. Let a higher fiscal backflow result in increasing expenditures, the benefit for capital user from public expenditure φ raise. Benefit in jurisdiction 2 is higher than in jurisdiction 1: φ 1 < φ 2 In a scenario with federal wide identically nominal tax rates on capital, the effective tax rates must differ: τ 1 K eff. > τ 2 K eff. 23

26 Jurisdiction 1 Jurisdiction 2 Department III: Spatial Allocation of Capital and Differences in Fiscal Backflow Rates F K F K 1 F K 2 F K 1 τ 1 K eff. τ 2 K eff. K 1 K 1 K 24

27 Conclusion There is no question that incentives drive the actions of regional political-administrative decisionmakers. Considering incentives in analysis of multilevel systems needs to focus on effective incentives. However, sometimes fiscal incentives can be important, sometimes fiscal incentives play a secondary role for many reasons. Fiscal equalization schemes based on per capita equalization have to take into account the effects of equalization systems on the fiscal backflow rates related with decentral activities. The contribution here is to point out the importance to take into account different fiscal backflow rates among regions (jurisdictions) when spatial allocation of capital can be distorted by differences in fiscal backflow rates and distorted decisions on capital use affect regional development and drive divergence. 25

28 Thank you very much for your attention!