THE STIMULATORY EFFECT OF GRANTS-IN-AID†

ONE OF THE MAJOR financial relationships which exist between units of government in the multi-level federal system in the United States is the grant-in-aid. Few attempts have been made to assess in a rigorous manner the impact of such grant programs or to provide a theoretical basis for predicting such impacts. This study endeavors to develop a useful theory of behavior for grant-recipient governments and to test the validity of this theory empirically. Since central concern is with the extent to which grant programs successfully achieve their objectives, discussion at first centers on the possible goals of expenditure stimulation, tax reduction, income redistribution, social-service guarantees and equalization, and the compatibility of such aims with a grant system. This discussion is placed in the context of an idealized Musgravian world of public finance as it seems to apply to a multi-level system. The theoretical model uses indifference-curve analysis to predict the effects on the expenditures of a governmental unit of a grant-in-aid it might receive and the related effects of taxes which its citizens might have to pay to some other (central) unit to finance that grant. Analysis centers on the importance of tying the grant to specific local-government expediture functions and on the importance of matching provisions, under which the amount of aid given is a function of local money used. The model suggests: (1) that the specificity of non-matching grants has no allocative importance unless aid money provides the sole support for the function, (2) that matching aid will provide little more expenditure stimulus than an equal-sized non-matching grant if both are large enough, and (3) that specific matching grants which are subject to dollar ceilings may be no more effective than general non-matching grants. Since the taxes needed to finance aid programs should tend to offset the stimulus of grant receipts, the overall stimulus provided by the program may have to rely on differing expenditure propensities, tax exportation, and the substitution effect of matching provisions. A negative stimulus is thus possible, even with normal (non-inferior) services. After reviewing and criticizing the previous research on this subject, the study presents the results of multiple regressions run in two major expenditure areas: public education and public welfare. Use of data for school districts in New Jersey and Connecticut on a cross-sectional basis suggests that almost all of the nonmatching state aid effectively leaks into non-educational uses. This conclusion seems to be confirmed by time-series analysis of districts in the same states. It thus appears that the redistributive effects of state school aid, both between and within communities, may be of more significance than the allocative effects of increasing educational expenditures. The state governments appear to be the relevant decision-makers in the categorical public-assistance programs, which involve matching aid. Regressions were run for the ADC and OAA programs in ten states, using the cost shares borne by the federal and local governments as quasi-price factors. The results suggest that fairly substantial