Does Federal Spending “Coerce” States? Evidence from State Budgets

Galle, Brian | March 1, 2014

According to a recent plurality of the U.S. Supreme Court, the danger that federal taxes will “crowd-out” state revenues justifies aggressive judicial limits on the conditions attached to federal spending. Economic theory offers a number of reasons to believe the opposite: federal revenue increases may also buoy state finances. To test these competing claims, I examine for the first time the relationship between total federal revenues and state revenues. I find that, contra the NFIB v. Sebelius plurality, increases in federal revenue—controlling, of course, for economic performance and other factors—are associated with a large and statistically significant increase in state revenues. This version of the study provides extensive background explanations of underlying economic concepts for readers unfamiliar with the prior public finance literature.