public finance seminar spring 2015, professor yinger state aid
TRANSCRIPT
Public Finance SeminarSpring 2015, Professor Yinger
State Aid
State Aid
Class Outline
The Education Finance System
Types of State Aid
Research on State Aid
State Aid
The U.S. Education Finance System
State elected officials make the rules for elementary and secondary education.
State elected officials also design the education finance system:◦ State aid (~50% of total in average state)◦ Property taxes and perhaps other local taxes◦ Compensation for homestead exemptions
The federal government provides a little funding (< 10%), tax breaks for property taxes, and some incentives (through NCLB).
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EDUCATION FINANCEIN THE U.S.
School District
Local Property Taxes
State Aid
Federal Aid
Local Voters
State Regulators
Authority Revenue
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The Education Finance System, 2
The broad rules are laid out in a state constitution, which has phrases such as “a system of free public schools’ or “a sound, basic education.”
Elected officials design a system that meets their objectives, which usually (but not always!) do not involve much re-distribution.
People in low-performing districts bring suits into the state courts, and the state courts rule on the constitutionality of the system designed by elected officials.
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The Role of the Courts
1971: Serrano decision by California Supreme Court rejected California’s education finance system based on U.S. and California Constitutions.◦ It is unfair, the court said, for a child’s education
to depend on the wealth of his school district.
1972: Rodriquez decision by the U.S. Supreme Court ruled out education claims based on U.S. Constitution.
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The Role of the Courts, 2
Since 1971:
◦ 43 state courts have heard challenges to their state’s education finance system.
◦ 20 more education finance systems have been declared unconstitutional by a state supreme court.
◦ Court decisions have led to major education finance reforms in many states, including California, Kentucky, New Hampshire, New Jersey, Texas, Vermont.
◦ Several states have implemented major reforms without a court mandate, including Kansas, Maryland, and Michigan.
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Educational Disparities
What the courts are responding to are enormous disparities in both resources and student performance across school districts within a state.
This disparities arise because districts vary widely in both available resources and educational costs.
Large cities, which often contain many poor families, have particularly low student performance.
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Sources of StudentPerformance Gaps
Poverty, Limited English, Wages
Disparities in Income &
Wealth
Gaps in Education Resources
Gaps in Education
Costs
Gaps in Student
Performance
Demand Supply
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8th Grade Test-Score Gaps
Between Big Cities and States, 2001State City Reading Math
California Los Angeles 38.0% 42.9%
Oakland 44.0% 44.9%
Colorado Denver 44.4% 64.9%
Illinois Chicago 27.3% 50.0%
Louisiana New Orleans 58.0% 63.6%
Maryland Baltimore 63.0% 70.2%
Massachusetts Boston 38.8% 41.2%
Michigan Detroit 48.3% 44.4%
Minnesota Minneapolis 35.4% 41.7%
Missouri St. Louis 67.6% 60.0%
New Jersey Newark 43.9% 61.4%
New York Buffalo 48.9% 59.0%
New York City 26.7% 41.0%
Rochester 44.4% 71.8%
Ohio Cleveland 18.7% 53.4%
Pennsylvania Philadelphia 61.7% 68.6%
Wisconsin Milwaukee 49.3% 79.5%
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NYC Buffalo Rochester Syracuse Yonkers Rest of State0
10
20
30
40
50
60
70
80
90
Proficiency and Graduation Rates in New York, 2013
Grades 3-8 ELA Grades 3-8 Math Graduation Rate
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Key Questions in Education Finance Reform
1. What is the best way to measure the education provided by a school district?◦What do we want schools to provide?
2. What is the appropriate equity standard?◦How would we recognize a fair outcome if
we saw it?
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Measuring Education, 1
Spending per pupil is a poor measure of education ◦Easy to measure, but hard to interpret◦Rejected by most courts
Spending ignores variation in the cost of education due to◦Concentrated disadvantage among students◦The high cost of attracting teachers to some
districts
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Measuring Education, 2
Pupil performance, such as test scores and drop-out rates, provides a better measure of education◦ It corresponds with what parents want◦ It is consistent with the trend toward setting higher
standards◦ It is consistent with accountability programs (discussed
next class)
An education cost index provides a bridge between performance and spending◦ An equivalent approach is using higher “weights” for
disadvantaged students
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Educational Adequacy
Adequacy is the equity standard emphasized in most recent court decisions and by most policy makers:◦ Every student should be in a school that delivers an
adequate average student performance.
An adequacy standard does not eliminate all disparities:◦ Districts are allowed to provide above-adequate educations
if they can.
Adequacy is achieved by a foundation aid program (discussed below).
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Other Equity Standards
Access Equality◦ The education provided by a district should depend only on its
property tax rate.◦ Refers to fairness for taxpayers, not students. ◦ Is achieved by power-equalizing aid (discussed below)◦ Was the main issue in Serrano.
Wealth Neutrality◦ Educational outcomes should not be correlated with school
district wealth.◦ Difficult to achieve.
Equality◦ All school districts should provide the same level of education.◦ May require state provision, as in Hawaii.
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The Foundation Aid Formula
40 states use a foundation aid formula, designed to achieve educational adequacy.
The foundation aid formula is
◦ Aj = aid per pupil to school district j.
◦ E* = foundation spending per pupil (state-selected; the same in every district).
◦ t* = minimum required property tax rate (state-selected; the same in every district).
◦ Vj = actual property tax base per pupil in district j.
* *j jA E t V
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The Foundation Aid Formula, 2
E*
Spending per Pupil
Tax Base per Pupil
Vmin Vmax
Required Local Taxes
FoundationSpendingLevel
Spending Above Foundation Level
Aid
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The Foundation Aid Formula, 3
A foundation aid formula can easily be adjusted for educational costs (that is, focused on performance):
◦ S* = foundation spending level per pupil in a district with average costs
◦ Cj = educational cost index for district j.
Pupil weights can also be used.
This formula is equivalent to offsetting fiscal disparities across schools.
* *j j jA S C t V
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The Foundation Aid Formula, 3
A foundation formula must address four issues:
◦1. How much spending is “adequate”?
◦2. Should the foundation level be adjusted for variation in education costs across districts?
◦3. Should a minimum local property tax rate be required?
◦4. How should burden of funding an adequate education be distributed?
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Foundation Aid without Minimum Tax Rate Requirement
E*
Spending per Pupil
Tax Base per Pupil
Vmin Vmax
Local Taxes
FoundationSpendingLevel
Spending Above Foundation Level
Aid
SpendingLostwithoutRequiredMinimumTax Rate
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Power-Equalizing Aid
Power-equalizing (or guaranteed tax base, GTB) aid, is the main program in 3 states and a supplementary program in 10 others.
The idea behind GTB aid is that a district’s spending should depend on tax effort, not tax base:
where V* is a policy parameter set by the state.
*j jE t V
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Power-Equalizing Aid, 2
To determine the associated aid formula, note that
Combining this with the GTB formula leads to:
*1 j
j j
VA E
V
* *or ( )j j j j j j j jE A t V t V A t V V
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Power-Equalizing Aid, 3
GTB is matching aid; the state share of spending decreases with Vj.
If V* < maximum Vj, then matching rates are negative in rich districts.◦ This is called recapure.◦ Vermont is an example.
Raising V* raises the cost of GTB aid.◦ To offset this effect, set matching rates at a fraction of
the value in the above formula◦ That is, flatten the line in the following picture.
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Power-Equalizing Aid, 4
0
MatchingRate =StateShare
Tax Base per Pupil
Vmin Vmax
Recapture
V*
mi = (1 – Vi /V*)
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Power-Equalizing Aid, 5
GTB aid can be adjusted for costs (but rarely is):
Using GTB as a supplement to foundation aid is misguided:◦Foundation aid already requires poor districts to
set tax rates above their desired level.◦Adding GTB aid will not induce any further tax
rate increases.
*
* * *
j j jj j j j
S C V VA E E C
S C V V
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Comparing Foundation & GTB Aid
GTB aid is often thought to be more equalizing than foundation aid.
In fact, however, price elasticities are small, so the response to GTB aid is small, even for poor districts. (See D/Y, NTJ, 1998.)
So:
◦ Foundation aid is much more equalizing at the bottom of the property value distribution (and is the only way to ensure adequacy).
◦ GTB aid is more equalizing at the top of the property value distribution—at least if it includes recapture
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Comparing Foundation andGTB Aid, 2
E*
Spending per Pupil
Tax Base per Pupil
Vmin Vmax
Recapture
Initial SpendingSpending with Foundation AidSpending with Power-Equalizing Aid
V*
Small Impacts Due to Small Price Elasticity
With RequiredMin. Tax Rate
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Wealth Neutrality
Wealth neutrality is defined as a zero correlation between property wealth and performance outcomes.
◦ This is the same as a flat regression line for performance as a function of wealth.
When it was first proposed, many people thought GTB aid would lead to wealth neutrality.
But a famous paper by Feldstein (AER 1975) shows that this would be true only by coincidence because outcomes depend on the behavioral responses to the matching rates.
◦ A low response by low-wealth districts (which seems to be the case) would lead an upward sloping line.
◦ A high response by low-wealth districts would lead to a downward sloping line.
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Research on State Aid
The Oates Equivalence Theorem
Recall that
The Oates theorem says that the impact of these two components of augmented income on demand should be the same.
Other equivalence theorems arise in other models.
A VY Y A
V
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Research on State Aid, 2
The Flypaper Effect
Empirical studies find that the Oates theorem does not hold.
In the D/Y equations, f ≠ 1:
There is no consensus about why this is true.
* *
1* * *V VS K Y f A C e
V V
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Research on State Aid, 3
Matching aid
The community budget constraint
The household budget constraint
Tax Price
{ } 1C Se mA tV
1 1{ }e
m mV V
C SV VY A Z PH
1VTP MC mV
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Research on State Aid, 4
The matching rate
Note that in this formulation, the matching rate is the state share
Some studies use the state match per dollar of local or
This leads to:
Sm
S L
*S
mL
1
1 *
{ }e m
C S A tV
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Research on State Aid, 5
Matching vs. lump-sum aid
There is a well-known theorem that matching aid has a more stimulative effect than equal-cost lump-sum aid.
This is an application of the classic microeconomic theorem that price subsidies have larger effects (per dollar) than cash grants.
The relevant graph follows:
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Cash vs. Price Subsidy
Food
Clothing
F1 F3 F2
Budget Line with Cash Grant
Cost of Both Programs(in Units of Food)
Tangency Pointwith Price Subsidy
I3
I2
I1
Budget Line with Price Subsidy
Tangency Pointwith Cash Grant
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Research on State Aid, 6
This theorem fails to consider three key elements of the demand for public services
Lump-sum aid has a flypaper effect.
Matching aid alters the value of existing lump-sum aid (and, to be specific, makes it less stimulative).
Both matching and lump-sum aid may alter efficiency, but these effects are not well understood.
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Research on State Aid, 7
The flypaper effect applies only to lump-sum aid.
Even if the price elasticity is high for a government service, the theorem applies regardless of the price elasticity.
The theorem assumes no flypaper effect.
Hence, a large flypaper effect could reverse the theorem.
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Research on State Aid, 8
Matching and lump sum aid
With matching and lump-sum aid the household budget constraint is
Matching aid affects the value people place on lump-sum aid (because it alters their tax price),
This effect could reverse the standard theorem because it lowers the stimulative impact of matching aid.
1 1{ }e
m mV V
C SV VY fA Z PH
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Research on State Aid, 9
Aid and Efficiency
Both types of aid appear in augmented income.
Matching aid appears directly in tax price and both types of aid affect tax price through e.
Hence both type of aid may alter efficiency—and this effect may reverse the standard theorem.
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