A common feature of federations is that different levels of government share a common tax base. An implication is that tax policies established by one locality will affect taxes collected by other localities as well as by the center. Such tax externalities can lead to inefficient choices of tax rates by localities for several reasons. First, if there is mobility of producers between jurisdictions, there will be horizontal tax externalities. An increase in one province’s tax rate, given the tax rates in other provinces, will lead to an outflow of the tax base to other regions
