Tax competition among governments and the effects on government performance: Empirical evidence from local governments in New Jersey

This thesis addresses two fundamental issues highlighted in the literature on competition among governments: (1) Do local governments engage in tax competition? and (2) What are the effects of competition on government performance? In a multi-level government system, we can observe two types of competition: inter-jurisdictional competition between the same level of governments and intra-jurisdictional competition between governments sharing the same tax base. To examine the presence of competition and the effects on government performance, we estimate several equations using data on New Jersey local governments. New Jersey is an optimal location to examine both types of competition simultaneously given its diversity in political institutions, its highly fragmented local governmental structure, and the property tax base sharing between municipalities, school districts, and counties. This study contributes to the literature on government competition by examining the presence of both types of competition within a comprehensive framework and the effect of competition in terms of government efficiency. To investigate the presence of both inter- and intra-jurisdictional competition, we estimate property tax rate models which relate municipal tax rates to those of competing jurisdictions, school districts, and counties, using spatial econometric techniques. The spatial regression results provide strong evidence for the existence of both types of competition, showing that municipalities react negatively to the changes in county tax rates and positively to the changes in tax rates of school districts and competing municipalities. We also examine the effects of competition among governments on government performance. More specifically, we estimate the effect of competition on the combined tax rates of municipalities and school districts, on property values, and on DEA technical efficiency scores. We find that inter-jurisdictional competition leads to lower tax rates and enhances both allocative and technical efficiency. This confirms the beneficial effect espoused by Tiebout, the Leviathan hypothesis, and yardstick competition, but not the harmful effect of the tax competition theory. We also find that school district consolidation reduces tax rates but does not have any significant effect on allocative and technical efficiency. In addition, we find that school budget referendums lower tax rates and lead to allocative efficiency