Local Fiscal Constraints and Amplification of Regional Shocks

Abstract

How do municipal finances interact with local labor market shocks? I show that the observed general equilibrium response to local labor market shocks contains an economically important amplification effect through local financial constraints. At the center of the local financial amplification channel is the housing market. Local governments in the United States receive a median share of 63.13% of own source revenues from property taxes. I show that exogenous shocks to local labor markets affect the housing market and exerts fiscal pressure on local government finances. Local governments---on average---increase property taxes and cut amenities. Both policy responses affect the relative attractiveness of a location which amplifies the initial shock. I estimate a multiplier of 1.7x through this local financial constraint channel for employment.

Keywords: Municipal finance, financial distress, migration, public finance, tax base, fiscal sustainability

JEL Classification: H30, H71, H72, H75