Optimal Intergovernmental Transfers In A Growing Economy

With public finance theory, the intergovernmental transfers system has the function to solve two aspect problems: one is to solve the unbalance of intergovernmental fiscal capacity; the other is to solve the problem of externalities between jurisdictions, including spatial externalities of local public expenditure. So it is necessary to consider the externalities between jurisdictions which might affect the optimal intergovernmental transfers, when studying the optimal intergovernmental transfers problem in a growing economy. With the theory research on economic growth and intergovernmental transfers, representative literature have Gong et al.(2000, 2002 a, 2002b), which achieved many results in the framework of Arrow- Kurz- Barro. But in the theory model of Gong and Zou, it doesn’t get the definite functional form between the intergovernmental transfers and economic growth, either without considering the spacial externalities of local public expenditure. On the other hand, from published literature, both at home and abroad have quite a few scholars studied the externalities of local public expenditure. But most of the literature focus on the "competition effect" and "demonstration effect" research of intergovernmental fiscal expenditure, as well as the spatial externalities of infrastructure on total factor productivity. While there is a little literature studying the spatial externalities of public finance expenditure in a growing economy directly.Following the study of Gong et al.(2002a, 2002b), this article builds a theory model to study optimal intergovernmental transfers with two-level governments, and supposes that one district’s output is still affected with the other district’s public expenditure. To prove the suppose means something, this article uses 2007-2013 years Chinese 30 provincial regions(except Tibet autonomous region) data to test if there are spatial externalities of local public expenditure, results say that education, science and technology, culture and sports and media and so on indeed exist significant positive spatial externalities with economic growth. With these results, this paper constructs a theory model with two levels of government, and then with the rigorous mathematical logic deducing, deduces optimal intergovernmental transfers in growing economy, explores how optimal intergovernmental transfers adjusted by the different spatial externalities of public expenditure and verify that the intergovernmental transfers could raise the level of overall social welfare when local public expenditure exist spatial externalities.Through theoretical derivation, this paper get the following conclusion: 1) there exist spatial externalities of public expenditure; 2) When there is no central government’s intervention, the local government’s optimal income tax rate is equal to the output elasticity of local public expenditure; 3) With the presence of the central government’s intervention, the optimal intergovernmental transfers rate is ( ×+=baggu)*, and optimal central income tax rate is( -=bgt)*1f, the optimal local income tax is( +×=gabat)*s; 4) When the transfers ratio goes away from the optimal transfers ratio, the economic growth ratio and social welfare both slow down; 5) The stronger the spatial externalities of public expenditure(that is, the greater the absolute value), the larger the optimal intergovernmental transfers are; 6) When there are spatial externalities of public expenditure in a growing economy, the central government can improve the level of overall social welfare through intergovernmental transfers.