Yale Study: Centralized Fiscal Systems Reduce Inequality in Economic Mobility

When was the last time you thought about the name of our country?

“The United States of America” says something specific about the construction of its government in a way more prominent than other democracies. After all, nobody casually refers to “The Provincial and Territorial Governments of Canada Under King Charles III.”

The Declaration of Independence and the U.S. Constitution named the new nation as a collection of component states — united, but not comprising one uniform entity. Today, each of the 50 states contain different configurations and layers of counties, cities, towns, and special districts to govern their citizens.

A new study supported in part by Yale’s Institution for Social and Policy Studies measured how differences in the centralization of fiscal systems across the country affect the economic mobility of children. The researchers found that more centralized systems, in which higher-level governments handle most of the taxing and spending, show less inequality across places in mobility outcomes for low-income children.

In addition, they found that centralization helps improve economic outcomes in disadvantaged areas without impacting outcomes in more advantaged communities.

“We have a system of place-based public finance, where local governments rely on their local wealth to fund schools and other essential services,” said Rourke O’Brien, an ISPS faculty fellow, associate professor of sociology, and lead author of the study. “Generally, state governments have chosen to send money to poorer places. What we are showing is there is another avenue to get to more equal outcomes across places.”

O’Brien’s research examines the causes and consequences of inequality in rich democracies with a focus on public and household finance, economic mobility, and population health. He served as senior policy advisor for consumer policy at the U.S. Department of the Treasury from 2012 to 2014 and collaborated on this paper with Manuel Schechtl, assistant professor of public policy at the University of North Carolina at Chapel Hill; and Zachary Parolin, an associate professor at Bocconi University and a senior research fellow at Columbia University’s Center on Poverty and Social Policy.

O’Brien said that counties with more centralized fiscal systems — in which cities and towns hold less responsibility for collecting and distributing resources — might help reduce place-based disparity by allowing a more professional bureaucracy, with more capacity to more effectively engage in economies of scale, to more effectively target the neediest areas when making spending decisions.

For example, Connecticut has counties for census purposes and maps but no county government. More affluent towns spend money on themselves, and less affluent cities and towns have less money to spend from collecting taxes locally. They instead rely on the state to supplement their needs. A hypothetical New Haven County government could eliminate the need for hyper-local school districts and apply transparent formulas to better distribute tax dollars where they are most needed.

“There is a deep unfairness in requiring local governments to fund important public services but from very different tax bases,” O’Brien said. “We need to think about how we can get closer to fiscal equality. Redistribution is one way. But as this paper shows, shifting the level of government that is responsible might be another strategy to think about.”

The paper explores how current fiscal structures descended from origins dating back hundreds of years and can differ substantially even between similarly populated states. For example, Iowa and Nevada both have about 3 million residents. But Nevada has 35 local general-purpose governments, while Iowa — roughly half the geographic size of Nevada — has 1,042.

“One really interesting aspect of our federal system of government is that our states are fiscally sovereign,” O’Brien said. “They can structure themselves however they want and tax and spend however they want. As states were founded, they developed completely from scratch. So, we have this continent-wide country with states formed at different moments of time developing centralized or decentralized models that get solidified over decades and centuries.”

A map the authors created shows how expenditure centralization varies across the United States, with county governments dominating in Virginia, North Carolina, and Tennessee but not in southern New England, where states have granted all local policymaking to cities and towns.

“These are inherited systems, so we never stop to critique them,” O’Brien said. “There has never been a contemporary moment when people have voted to say they want this or that type of system. It just arrived.”

O’Brien said he hopes the study will spur states to take a closer look at the fiscal structures within their borders.

“I’m not saying we should necessarily move to a completely centralized model,” he said. “But this is a way of trying to understand the world we have a little better and reveal another structural reason why places are more or less unequal. We are trying to step back and say this money is flowing through these fiscal structures. These structures have some shape. Maybe we can first talk about that shape before we get to the flow of money.”