The effect of national revenues on sub-national revenues evidence from the U.S.

Abstract

I present for the first time an empirical examination of the impact of total federal revenues on total sub-national proceeds. Prior theory recognizes that the effects of national revenues on sub-national revenue-raising are ambiguous. Earlier studies have focused on vertical relationships between particular tax bases, such as the impact of federal commodity taxes on state or provincial commodity tax rates. Using a panel of data from U.S. states over the recent decade, I find an economically and statistically significant degree of federal crowding in of state revenues. Also, employing a difference-in-differences design to study the impact of a 2004 change in the federal deductibility of state general sales taxes, I find modest evidence that deductibility increased state revenues in states more dependent on the sales tax. I note the potential implications of these results for fiscal federalism theory and legal controversies over federal conditional spending.