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Unsticking the flypaper effect using distortionary taxation

Author

Listed:
  • Carlos A. Vegh

    (Johns Hopkins University y NBER)

  • Guillermo Vuletin

    (The Inter-American Development Bank)

Abstract

The flypaper effect is a widely-documented puzzle whereby the propensity of subnational governmental units to spend out of unconditional transfers is higher than the propensity to spend out of private income. Building on previous insights in the literature that rationalize this puzzle using costly taxation, we develop a simple optimal fiscal policymodel with distortionary taxation that generates two novel and testable implications: (i) there should be a positive association between the degree of the flypaper effect and the level of the tax rate, and (ii) the flypaper effect should be larger the lower the elasticity of substitution between private and public spending and, in fact, should vanish for very high degrees of substitution. We show that these hypotheses hold for argentinean provinces and brazilian states.

Suggested Citation

  • Carlos A. Vegh & Guillermo Vuletin, 2016. "Unsticking the flypaper effect using distortionary taxation," Económica, Instituto de Investigaciones Económicas, Facultad de Ciencias Económicas, Universidad Nacional de La Plata, vol. 62, pages 185-237, January-D.
    • Handle: RePEc:akh:journl:606
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    File URL: https://revistas.unlp.edu.ar/Economica/article/view/5333/4367
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    References listed on IDEAS

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    Cited by:

    1. Manuel E. Lago & Santiago Lago-Peñas & Jorge Martinez-Vazquez, 2024. "On the effects of intergovernmental grants: a survey," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 31(3), pages 856-908, June.
    2. Berset, Simon & Schelker, Mark, 2020. "Fiscal windfall curse," European Economic Review, Elsevier, vol. 130(C).
    3. Vegh, Carlos A. & Vuletin, Guillermo, 2015. "Unsticking the flypaper effect in an uncertain world," Journal of Public Economics, Elsevier, vol. 131(C), pages 142-155.
    4. Antti Saastamoinen & Mika Kortelainen, 2020. "When Does Money Stick in Education? Evidence from A Kinked Grant Rule," Education Finance and Policy, MIT Press, vol. 15(4), pages 708-735, Fall.

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    More about this item

    Keywords

    flypaper effect; distortionary taxation; tax rates; substitutability between private and public spending; congestion of public goods.;
    All these keywords.

    JEL classification:

    • H62 - Public Economics - - National Budget, Deficit, and Debt - - - Deficit; Surplus
    • H77 - Public Economics - - State and Local Government; Intergovernmental Relations - - - Intergovernmental Relations; Federalism
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
    • H22 - Public Economics - - Taxation, Subsidies, and Revenue - - - Incidence
    • H41 - Public Economics - - Publicly Provided Goods - - - Public Goods
    • H42 - Public Economics - - Publicly Provided Goods - - - Publicly Provided Private Goods

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