Fiscal Federalism, Grants, and the U.S. Fiscal Transformation in the 1930s

43 Pages Posted: 6 Sep 2017

See all articles by Martin Gonzalez-Eiras

Martin Gonzalez-Eiras

University of Copenhagen

Dirk Niepelt

University of Bern - Department of Economics

Date Written: July 20, 2017

Abstract

We propose a theory of tax centralization and intergovernmental grants in politico-economic equilibrium. The cost of taxation differs across levels of government because voters internalize general equilibrium effects at the central but not at the local level. The equilibrium degree of tax centralization is determinate even if expenditure-related motives for centralization considered in the fiscal federalism literature are absent. If central and local spending are complements, intergovernmental grants are determinate as well. Our theory helps to explain the centralization of revenue, introduction of grants, and expansion of federal income taxation in the U.S. around the time of the New Deal. Quantitatively, the model can account for the postwar trend in federal grants, and a third of the dramatic increase in the size of the federal government in the 1930s.

Keywords: Fiscal policy, Federalism, Politico-economic equilibrium, Markov equilibrium, Public goods, Grants, Political Economy

JEL Classification: D72, E62, H41, H77

Suggested Citation

Gonzalez-Eiras, Martin and Niepelt, Dirk, Fiscal Federalism, Grants, and the U.S. Fiscal Transformation in the 1930s (July 20, 2017). Available at SSRN: https://ssrn.com/abstract=3030705 or http://dx.doi.org/10.2139/ssrn.3030705

Martin Gonzalez-Eiras (Contact Author)

University of Copenhagen ( email )

Nørregade 10
Copenhagen, København DK-1165
Denmark

Dirk Niepelt

University of Bern - Department of Economics ( email )

Schanzeneckstrasse 1
Bern, CH-3001
Switzerland

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