Does Sales Factor Apportionment Benefit the Welfare of State?

U.S. states have raised the sales apportionment weight and lowered the payroll weight to stimulate local labor demand. However, the policy discussions often ignore the negative effect of sales apportionment tax; the tax distorts the sales allocation of firms across states and causes an increase in the local price level in the state. This study examines the optimal tax policy from the perspective of a single state and predicts the Nash equilibrium with a quantitative model that incorporates the effects of an apportionment formula both on local labor demand and on the price level. The calibration suggests that the sales weight should be zero for the optimal state tax policy because the negative effect on the price level outweighs the positive effect on the local labor demand under a range of plausible parameters.