Chapter 16: Intergovernmental transfers: rationale and policy
Transfers from federal to subnational, hereafter state, governments are important components of fiscal arrangements in federations. Such transfers take many forms and serve many purposes. They can be unconditional, so available for use with full discretion to the recipient state, or conditional on state programs satisfying specified conditions. Conditional transfers may be block grants, where the conditions apply to a broad category of state spending, such as health or welfare. Or they may be specific grants with conditions applying to a narrow program, such as highways or universities. The amount of funds transferred may be based on a formula or it may be at the discretion of the federal government. The formula may depend on state behavior. Thus, a transfer may be matching and be some proportion of state expenditures in a given program area, or it may depend on the tax effort of the state, that is the revenue it collects from some source. Matching grants may be open-ended or there may be a maximum amount prescribed. Transfers may be equalizing and depend on the capacity of states to raise their own revenues, as measured for example by the per capita size of their tax base. Equalization transfers might also depend on the expenditure needs of a state based on the size of their population that requires particular public services like health or education. Expenditure needs might also take account of the cost of public services in the state.
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