Decentralized fiscal federalism revisited: Optimal income taxation and public goods under horizontal leadership

This paper concerns optimal taxation and public goods in an economic federation with decentralized leadership, where one lower level government is the first mover also in the horizontal dimension. Under plausible assumptions, horizontal leadership reinforces the incentives created by decentralized leadership.

► We model a federation with two local jurisdictions and a federal government. ► We analyze the joint incentives created by decentralized and horizontal leadership. ► Federal redistribution affects the optimal tax policy of the horizontal leader. ► Federal redistribution typically leads to underprovision of local public goods.