We study Indonesia’s Integrated Economic Development Zone program, which provided taxbreaks for firms locating in poorer districts. Although firms in KAPET districts paid lower taxes, these tax cuts neither stimulated entry nor increased output, and KAPET districts experienced no better development outcomes than non-treated districts. To investigate whether regional policies could be more optimally redesigned, we develop a quantitative spatial model with multiple sectors and a transfer system to finance local public goods. We find that the overall welfare effects of the KAPET program were small, and tax cuts in larger cities would have been more welfare and growth enhancing.
