Power, Risk, and Democratic Control in State-Local Finance: The Effect of State Tax and Expenditure Limits on Municipal Debt and Risk

Abstract

Municipal finance is important, if opaque, to the daily lives of people across the United States. Cities and towns provide essential services which are often financed through debt. Over the course of the 20th century, the use of debt in municipalities and the state-local relationship has transformed dramatically. While debt historically was used for infrastructure projects supported with tax revenue, its use expanded in the postwar era into private purposes and non-capital expenditures. Revenue bonds in particular, a form of non-guaranteed debt, are a popular mechanism to finance local services. States have also increasingly exercised control over municipal finance. Particularly in latter half of the last century, states passed tax and expenditure limits, or TELs, to regulate municipal governments.

In this thesis I explore the empirical effects of TELs, particularly limitations on property taxes, on fiscal risk metrics. The study is motivated by the increased financialization of the public sector, and concordant growth in risk in municipal government. How has the state-local relationship contributed to local risk? Using a panel regression with fixed effects on data from all 50 states 1967-2004, I find that TELs have significant effects on municipal risk. Property tax rate limits in particular increase risk, suggesting that some TELs may not constrain the size of local governments, but induce substitution towards higher-risk fiscal practices.