Tax Elasticity and the Growth of Local Public Expenditure

Abstract

This article examines the hypothesis that more income-elastic tax structures lead to higher levels and rates of growth of public expenditure because of a fiscal illusion effect. Although support for this hypothesis has been garnered at the state and federal level, the effects of tax elasticity on local public expenditures become clouded in light of Tiebout mobility. More elastic tax structures that lead to increased tax burdens over time may result in outmigration and, consequently, lower rates of expenditure growth. Empirical tests of the tax elasticity hypothesis show a negative relation between tax elasticity and local public expenditure levels and growth rates. These results do not deny the validity of the fiscal illusion hypothesis. It may be that the effects of Tiebout mobility outweigh the fiscal illusion effect.