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The impact of federal and state grants on local government spending: A test of the fiscal illusion hypothesis

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Abstract

This article offers an empirical test of the fiscal illusion hypothesis. It is argued that, if fiscal illusion increases with the degree of separation in taxing and spending powers, then federal unconditional grants ought to have a greater stimulatory impact on local government spending than state unconditional grants. Data for the 136 counties and cities of Virginia were examined and evidence in support of this hypothesis is provided. Federal grants were found to be the primary source of the stimulatory impact of grants. At the minimum, federal unconditional grants have twice the stimulatory effect as state unconditional grants.

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  • Philip J. Grossman, 1990. "The impact of federal and state grants on local government spending: A test of the fiscal illusion hypothesis," Monash Economics Working Papers archive-11, Monash University, Department of Economics.
  • Handle: RePEc:mos:moswps:archive-11
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    File URL: http://dx.doi.org/10.1177/109114219001800304
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    Cited by:

    1. Worthington, Andrew C & Dollery, Brian E, 1998. "The Political Determination of Intergovernmental Grants in Australia," Public Choice, Springer, vol. 94(3-4), pages 299-315, March.
    2. Brian Knight, 2000. "The flypaper effect unstuck: evidence on endogenous grants from the Federal Highway Aid Program," Finance and Economics Discussion Series 2000-49, Board of Governors of the Federal Reserve System (U.S.).
    3. Vittoria Idrisova & Lev Freinkman, 2010. "Impact of Federal Transfers over Regional Authorities Behavior," Research Paper Series, Gaidar Institute for Economic Policy, issue 137P.
    4. Langer, Sebastian & Korzhenevych, Artem, 2018. "Equalization transfers and the pattern of municipal spending: An investigation of the flypaper effect in Germany," CEPIE Working Papers 01/18, Technische Universität Dresden, Center of Public and International Economics (CEPIE).
    5. Deller, Steven C. & Walzer, Norman, 1995. "Structural Shifts in the Treatment of Intergovernmental Aid: The Case of Rural Roads," Journal of Agricultural and Applied Economics, Cambridge University Press, vol. 27(02), pages 522-535, December.
    6. Joseph Drew & Brian Dollery & Michael A. Kortt, 2016. "Peas in a Pod: Are Efficient Municipalities also Financially Sustainable?," Australian Accounting Review, CPA Australia, vol. 26(2), pages 122-131, June.
    7. Beata Guziejewska, 2015. "Designing A Revenue Structure In Local Self-Government Entities In Poland: Taxes Versus Grants," Equilibrium. Quarterly Journal of Economics and Economic Policy, Institute of Economic Research, vol. 10(3), pages 45-63, September.
    8. Antti Moisio, 1998. "The effects of change in grants-in-aid regime and cuts on grants on municipalities' expenditures in Finland," ERSA conference papers ersa98p296, European Regional Science Association.
    9. Moisio, Antti, 2002. "Determinants of Expenditure Variation in Finnish Municipalities," Discussion Papers 269, VATT Institute for Economic Research.
    10. Richard Scheffler & Richard Smith, 2006. "The impact of government decentralization on county health spending for the uninsured in California," International Journal of Health Economics and Management, Springer, vol. 6(3), pages 237-258, September.
    11. Steven Deller & Craig Maher & Victor Lledo, 2002. "Wisconsin Local Government, State Shared Revenues and the Illusive Flypaper Effect," Wisconsin-Madison Agricultural and Applied Economics Staff Papers 451, Wisconsin-Madison Agricultural and Applied Economics Department.
    12. Lars Feld & Christoph Schaltegger, 2005. "Voters AS A Hard Budget Constraint: On the Determination of Intergovernmental Grants," Public Choice, Springer, vol. 123(1), pages 147-169, April.
    13. Steven C. Deller & Craig S. Maher, 2006. "A Model of Asymmetries in the Flypaper Effect," Publius: The Journal of Federalism, Oxford University Press, vol. 36(2), pages 213-229.
    14. Nelson Marconi & Paulo Arvate & João Moura Neto & Paulo Palombo, 2009. "Vertical transfers and the appropriation of resources by the bureaucracy: the case of Brazilian state governments," Public Choice, Springer, vol. 141(1), pages 65-85, October.
    15. Grossman, Philip J. & Mavros, Panayiotis & Wassmer, Robert W., 1999. "Public Sector Technical Inefficiency in Large U.S. Cities," Journal of Urban Economics, Elsevier, vol. 46(2), pages 278-299, September.
    16. James LeSage & Matthew Dominguez, 2012. "The importance of modeling spatial spillovers in public choice analysis," Public Choice, Springer, vol. 150(3), pages 525-545, March.
    17. Eckel, Catherine C. & Grossman, Philip J. & Johnston, Rachel M., 2005. "An experimental test of the crowding out hypothesis," Journal of Public Economics, Elsevier, vol. 89(8), pages 1543-1560, August.
    18. Russell Sobel & George Crowley, 2014. "Do intergovernmental grants create ratchets in state and local taxes?," Public Choice, Springer, vol. 158(1), pages 167-187, January.

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