Fiscal Competition and Federal Shocks

Liyang Hong graduate from the Economics Department at Boston College. His research fields are in Macroeconomics and Public Finance, with a particular interest in intergovernmental fiscal relations and the economic influences. He will join Xiamen University as an assistant professor in Fall 2021.

This paper studies the effects of federal tax shocks on the economy. Being different from the existence literature, it takes into account the responses of the state-level fiscal policies and the state-state policy interactions in the transmission of the shocks. The results show that including fiscal competition significantly changes the responses of economic variables to a federal shock. This suggests that when the central planner makes decisions, he has to consider the local governments’ reactions, because it may affect the effectiveness of the policy.