Fiscal Federalism and Endogenous Lobbies' Formation

Abstract

We study lobbying behavior by firms in a two-region economy, with either centralized or decentralized provision of profit-enhancing local public goods. Firms compete either in the market, lobbying for public good provision once entered in a market, or for the market, lobbying to gain access to it. When firms compete in the market, we show that lobbying is unambiguously less disruptive for social welfare under decentralization. Moreover, foreign rather than domestic private interests may be more powerful in affecting regional policies. On the contrary, when firms compete for the market, lobbying is mostly effective under decentralization, since local firms always end up forming a local monopoly. However, we show that an institutional setting in which competencies are split between the center and the periphery may dominate either full centralization or full decentralization or both.

Keywords: fiscal federalism, lobbying, private interests

JEL Classification: D70, H23, H77