Working Paper: NBER ID: w2224
Authors: Douglas Holtz-Eakin; Harvey S. Rosen
Abstract: This paper investigates the effects of deductibility of local taxes on communities' budgetary decisions. Our focus is on how changes in the tax price of local spending induced by deductibility affect the mix between deductible and nondeductible revenue sources, and on expenditures. The econometric analysis is based on a rich data set that tracks the fiscal behavior of 172 local governments from 1978 to 1980. We find that the elasticity of deductible taxes with respect to the tax price is in the range -1.2 to -1.6; the tax price has no statistically significant effect on the use of nondeductible revenue sources; and the elasticity of local expenditures with respect to the tax price is about -1.8. Hence, if deductibility were eliminated, we would expect to see a substantial decline in local government spending.
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Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| tax price (H29) | deductible tax revenues (H20) |
| tax price (H29) | local expenditures (H72) |
| tax price (H29) | nondeductible revenue sources (H27) |