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Should Transfer Payments Be Indexed to Local Price Levels?

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  • Edward L. Glaeser

Abstract

This paper examines the optimal location-based redistribution policy and shows that adjustment for local price levels is occasionally optimal, but never for the reasons suggested by the popular press. First, the existence of a spatial equilibrium suggests that utility levels will be equalized across space, so there is little equity rationale for indexing transfers to local prices. Second, since transfers to high cost areas buy less than transfers to low cost areas, it is in fact less efficient to transfer to high cost areas. However, even though migration ensures that utilities are equalized across space, marginal utilities of income will not necessarily be equalized, and since optimal transfer policy equalizes marginal,not total, utilities there is possibly a rationale for indexing to local pricelevels. Optimal indexing is a function of the coefficient of relative risk aversion, the elasticity of migration with respect to transfer differences across space and the degree to which higher amenities in high cost areas increase or decrease the marginal utility of income. Given my best parameter estimates, a one percent increase in local prices should lead to a .5 percent increase in transfers, when transfers are 2/3 of total income. My estimates from current AFDC payments suggest that the current level of implicit indexing is too high to possibly be optimal.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 5598.

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Date of creation: May 1996
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Publication status: published as Glaeser, E. L. "Should Transfer Payments Be Indexed To Local Price Levels?," Regional Science and Urban Economics, 1998, v28(1,Jan), 1-20.
Handle: RePEc:nbr:nberwo:5598

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  1. Feldstein, Martin & Wrobel, Marian Vaillant, 1998. "Can state taxes redistribute income?," Journal of Public Economics, Elsevier, Elsevier, vol. 68(3), pages 369-396, June.
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  9. Louis Kaplow, 1995. "Regional Cost-of-Living Adjustments in Tax-Transfer Schemes," NBER Working Papers 5008, National Bureau of Economic Research, Inc.
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  14. Glaeser, Edward L & Mare, David C, 2001. "Cities and Skills," Journal of Labor Economics, University of Chicago Press, University of Chicago Press, vol. 19(2), pages 316-42, April.
  15. Hansen, Lars Peter & Singleton, Kenneth J, 1983. "Stochastic Consumption, Risk Aversion, and the Temporal Behavior of Asset Returns," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 91(2), pages 249-65, April.
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Cited by:
  1. repec:fth:prinin:423 is not listed on IDEAS
  2. Alejandro Esteller-More (Universitat de Barcelona) & Leonzio Rizzo (Universita di Ferrara), 2009. "(Uncontrolled) Aggregate shocks or vertical tax interdependence? Evidende from gasoline and cigarettes," Working Papers in Economics, Universitat de Barcelona. Espai de Recerca en Economia 233, Universitat de Barcelona. Espai de Recerca en Economia.
  3. Moretti, Enrico, 2011. "Local Labor Markets," Handbook of Labor Economics, Elsevier, Elsevier.
  4. Georges Tanguay & Gary Hunt & Nicolas Marceau, 2005. "Food Prices and the Timing of Welfare Payments: A Canadian Study," Canadian Public Policy, University of Toronto Press, University of Toronto Press, vol. 31(2), pages 145-160, June.
  5. Albert Solé-Ollé & Elisabet Viladecans-Marsal, . "Cities as engines of regional growth," Studies on the Spanish Economy 145, FEDEA.
  6. David Y. Albouy, 2008. "The Unequal Geographic Burden of Federal Taxation," NBER Working Papers 13995, National Bureau of Economic Research, Inc.
  7. Edward L. Glaeser & Joshua D. Gottlieb, 2009. "The Wealth of Cities: Agglomeration Economies and Spatial Equilibrium in the United States," Journal of Economic Literature, American Economic Association, American Economic Association, vol. 47(4), pages 983-1028, December.
  8. Tanguay, Georges & Hunt, Gary & Marceau, Nicolas, 2002. "Using a Canadian-American Natural Experiment to Study Relative Efficiencies of Social Welfare Payment Systems," Cahiers de recherche, CIRPEE 0205, CIRPEE.
  9. Albouy, David, 2012. "Evaluating the efficiency and equity of federal fiscal equalization," Journal of Public Economics, Elsevier, Elsevier, vol. 96(9-10), pages 824-839.
  10. Black, Duncan, 1999. "Local Knowledge Spillovers and Inequality," ERSA conference papers ersa99pa409, European Regional Science Association.

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