Unsticking the Flypaper Effect Using Distortionary Taxation / Carlos A. Vegh, Guillermo Vuletin.

Format:

Book

Author/Creator:

Vegh, Carlos A.

Contributor:

National Bureau of Economic Research.

Vuletin, Guillermo.

Series:

Working Paper Series (National Bureau of Economic Research) no. w22304.

NBER working paper series no. w22304

Language:

English

Physical Description:

1 online resource: illustrations (black and white);

Place of Publication:

Cambridge, Mass. National Bureau of Economic Research 2016.

Summary:

The flypaper effect is a widely-documented puzzle whereby the propensity of sub-national 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 policy model with distortionary taxation that generates two novel and testable implications: (i) there should be a positive association between the size 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.

Notes:

Print version record

June 2016.