space, however, has raised some difficultissues regarding government policy toward the “new” economy, particularly regarding tax policy.The sales of products and services over the Internet have grown even faster than theoverall use of the Internet; data from Jupiter Communications suggests online sales have beenrising about 300% per year (Krantz, 1998) and are expected to continue growing at tremendousrates. Forrester Research predicts that, by the year 2000, total online sales will exceed $200billion. At the extreme, Nicholas Negroponte, founder of the MIT media laboratory has predictedthat such commerce may exceed $1 trillion by 2000. Although online transactions currently makeup only a very small fraction of total retail sales, predictions such as these have caused state policymakers to become highly concerned with the fact that most online transactions pay no sales or usetax.1If these growth predictions are anywhere close to accurate, tax policy toward Internetcommerce promises to have serious consequences for future state tax policy since the sales taxmakes up the largest single component of state revenues.Economists have long argued that consumer sensitivity to tax rates will be larger forpeople living along geographic borders or in an open economy, more generally, where the costs ofarbitraging tax rates across locations are low, and that this can have important implications for the1 In general, Internet sales are treated the same as mail-order sales. No sales tax is collected from companies thathave no presence (known as nexus) in the state. Although sales tax is not collected, technically states apply a usetax which requires consumers to pay the equivalent of the state sales tax on their mail-order and Internetpurchases. The supreme court has ruled, however, that under existing law, an out-of-state vendor without nexus ina state cannot be required to collect the use tax for that state even if the customer lives there...
