Federal Spending Equals Higher State and Local Taxes

Yes, you read that correctly.  It seems that when Uncle Sam goes around offering “free money” it turns out that money is not so free after all.

A new study by Professor Russell S. Sobel and George R. Crowley sheds light on a particularly disturbing aspect of federal spending–the inducement of higher state and local taxes.  How?  Many grants to state and local governments are “temporary” in nature, yet when the federal funding dries up the recipient government feels political pressure to keep up the new spending.

For example, consider the U.S. Department of Justice’s Community Oriented Policing Services (COPS) hiring grants, whose purpose is to fund new officers to town police departments.  However, the catch is that towns that receive such grants must pick up the tab in the fourth year and beyond.

In the end, the author’s conclusions are rather startling:

Most importantly, our results suggest that the recent large increase in federal grants to state and local governments that has occurred as part of the American Recovery and Reinvestment Act (ARRA) will have significant future tax implications at the state and local level as these governments raise revenue to continue these newly funded programs into the future. Federal grants to state and local governments have risen from $461 billion in 2008 to $654 billion in 2010. Based on our estimates, future state taxes will rise by between 33 and 42 cents for every dollar in federal grants states received today, while local revenues will rise by between 23 and 46 cents for every dollar in federal (or state) grants received today. Using our estimates, this increase of $200 billion in federal grants will eventually result in roughly $80 billion in future state and local tax and own source revenue increases. This suggests the true cost of fiscal stimulus is underestimated when the costs of future state and local tax increases are overlooked.

Federal Spending In New Hampshire

Today the U.S. Census Bureau released their annual Consolidated Federal Funds Report which tracks federal spending by state for Federal Fiscal Year 2009. This is an important report when it comes to better understanding the status of Fiscal Federalism in America.

The chart below shows federal spending in New Hampshire by major type.  Total federal spending increased by $442 billion to $3.2 trillion in 2009 from $2.7 trillion in 2008, or 16.1 percent.  Federal spending jumped in New Hampshire by $1.5 billion (14.9 percent) to $11.8 billion in 2009 from $10.3 billion in 2008–a smaller increase than the national average.

As shown in the chart below, the largest percentage jump in spending was in “Grants to State and Local Governments” which increased by $735 million (39.2 percent)–this category includes Medicaid spending.  The next largest percentage jump was in “Other Direct Payments,” such as the Earned Income Tax Credit, which increased by $377 million (19.5 percent).  Other categories were:  “Salaries and Wages” which increased by $105 million (14.2 percent); “Retirement and Disability,” i.e., Social Security, which increased by $309 million (8 percent) and “Procurement” which increased by $7 million (0.4 percent).

As a percent of personal income, for calendar year 2008, New Hampshire’s reliance on federal spending is the 4th lowest in the country at 18.6 percent–well below the national average of 23.4 percent  and neighboring Maine (26.1 percent) and Vermont (26.3 percent).