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The flypaper effect unstuck: evidence on endogenous grants from the Federal Highway Aid Program

  • Brian Knight

Contrary to simple theoretical predictions, previous empirical research has found that state government public spending is increased far more, often dollar-for-dollar, by federal grant receipts than by equivalent increases in constituent private income. This anomaly has come to be known as the flypaper effect. First, a legislative bargaining model developed in this paper provides a critique of this empirical finding. The model demonstrates a positive correlation between constituent preferences for public goods and intergovernmental grant receipts, and this correlation has likely biased the existing literature towards finding a flypaper effect. The model also motivates using measures of the political power of state congressional delegations as an instrument for grant receipts. Second, after correcting for the endogeneity of grant receipts, the results demonstrate that constituent private income and grants have similar effects on public spending.

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Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series Finance and Economics Discussion Series with number 2000-49.

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Date of creation: 2000
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Handle: RePEc:fip:fedgfe:2000-49
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  9. Moffitt, Robert A., 1984. "The effects of grants-in-aid on state and local expenditures : The case of AFDC," Journal of Public Economics, Elsevier, vol. 23(3), pages 279-305, April.
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  15. Besley, Timothy & Case, Anne, 2000. "Unnatural Experiments? Estimating the Incidence of Endogenous Policies," Economic Journal, Royal Economic Society, vol. 110(467), pages F672-94, November.
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  18. James M. Poterba & Steven F. Venti & David A. Wise, 1993. "Do 401(k) Contributions Crowd Out Other Persoanl Saving?," NBER Working Papers 4391, National Bureau of Economic Research, Inc.
  19. Howard A. Chernick, 1981. "Price Discrimination and Federal Project Grants," Public Finance Review, , vol. 9(4), pages 371-394, October.
  20. Gamkhar, Shama & Oates, Wallace E., 1996. "Asymmetries in the Response to Increases and Decreases in Intergovernmental Grants: Some Empirical Findings," National Tax Journal, National Tax Association, vol. 49(4), pages 501-12, December.
  21. Bailey, Stephen J & Connolly, Stephen, 1998. " The Flypaper Effect: Identifying Areas for Further Research," Public Choice, Springer, vol. 95(3-4), pages 335-61, June.
  22. Weingast, Barry R & Shepsle, Kenneth A & Johnsen, Christopher, 1981. "The Political Economy of Benefits and Costs: A Neoclassical Approach to Distributive Politics," Journal of Political Economy, University of Chicago Press, vol. 89(4), pages 642-64, August.
  23. Edward M. Gramlich & Harvy Galper, 1973. "State and Local Fiscal Behavior and Federal Grant Policy," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 4(1), pages 15-66.
  24. Hausman, Jerry A., 1983. "Specification and estimation of simultaneous equation models," Handbook of Econometrics, in: Z. Griliches† & M. D. Intriligator (ed.), Handbook of Econometrics, edition 1, volume 1, chapter 7, pages 391-448 Elsevier.
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  28. Feldstein, Martin S, 1975. "Wealth Neutrality and Local Choice in Public Education," American Economic Review, American Economic Association, vol. 65(1), pages 75-89, March.
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