Wasteful local stimulus funding could mark the end of competitive federalism

A fiscal flood of biblical proportions — $1.3 trillion — is descending upon state and local governments via four pieces of congressional legislation enacted in the name of COVID relief. No less than $738 billion is scheduled to be spent in the current fiscal year. The Biden administration and congressional progressives are promising trillions more. The vast transfer of funds to lower tiers of government threatens the U. S. federal system as we know it.  

Until now, state and local governments have relied mainly on their own fiscal resources. Subject to constitutional and legal constraints, they can use their wherewithal to address community needs and desires. Grants received from Washington grew from 2 percent to 20 percent between 1957 and 2018, adjusting for inflation, but they were still only one fifth of all local revenues.   

We denote these arrangements as “competitive federalism,” because each locality finds itself contending with its neighbors for needed resources. The “business” of each local government, James Bryce, the English commentator, said a century ago, is “to mend the roads, … clean out the village well, … [and] to see that there is a place where straying beasts may be kept.” 

Competitive government is unusual. Only 25 of the nearly two hundred sovereign nations in the world have been identified as federal systems, and only three — Canada, Switzerland, and the United States — give lower-tier governments broad powers to tax, spend, and issue regulations.  

Alexis De Tocqueville was the first to notice U. S. federalism’s exceptional qualities.  “Americans love their towns,” he said, “for much the same reasons that [Scottish] highlanders love their mountains.” In both cases, the “peculiar features” have a “more pronounced physiognomy than is found elsewhere.” De Tocqueville believed democracies marched toward tyranny: Ambitious politicians centralize power by promising bread and circuses, then suppress  those who oppose them. Yet he admitted the United States, despite its democratic institutions, remained the cradle of liberty. Federalism explained the puzzle. Because politics was local, political ambition focused on minding fences and digging wells. Strong states and localities encouraged civic engagement, setting up hardy barriers to centralized power and liberty-crushing leaders.  

Federalism has taken a hit for its role in the defense of slavery and segregation. Only after African Americans acquired the vote and were able to protect their interests did De Tocqueville’s insights ring true. By splitting power into pieces and focusing political attention on small but crucial matters of everyday life, competitive federalism gives every group, no matter how fragile, an opportunity to find a place in the political sphere. African Americans are now able to construct local centers of power that elevate their leaders to a national stage. So can a wide array of other groups, whether they be ethnic, material, identity, or religious.     

Federalism is no less important for the country’s economic prosperity. To attract productive citizens, state and local governments must tend to community needs. To keep up with their neighbors, localities collect garbage, build schools, dig sewage systems, pave roads, and construct aqueducts. America’s extraordinary economic growth across the centuries owes much to this set of arrangements. Though local efforts are uncoordinated, actions can be taken quickly. Unresolved national conflicts and centralized bureaucracies do not stultify innovation, as happens in more centralized systems. Federalism abets the competitive spirit that transformed the United States into the world’s leading economic power by the end of the 19th Century and continues to propel it to ever greater heights in the 21st.     

Competitive federalism places important limits on what state and local governments can do with their own resources. If they tax the rich too much or give to the poor too generously, they repel those they most need to keep. Intergovernmental grants fund poverty programs (welfare, Medicaid, food stamps, compensatory education) necessary to serve needy populations.  

The “business” side has been mainly funded from state and local tax resources. If local governments do not use these monies well, property values decline, and government revenues fall. All this can happen quickly when 13 percent of all households move annually. At the extreme, bankruptcies loom. Detroit’s school district, the municipal government in Stockton, Calif., and the state of Illinois have approached that dark hole.  

State and local governments once solved fiscal challenges and debt crises on their own. When New York City spent beyond its means in the early seventies, Washington sternly refused a federal bailout. Today, Congress is acquiescing to local demands for COVID fiscal relief. We estimate [based on our calculations projecting past state and local revenues and stimulus into 2021] that in the 2021 fiscal year, the federal government will pay 35 percent of all state and local government costs, nearly doubling the percentage as recently as 2018. 

All this seems kind and generous. Certainly, many state and local politicians are delighted they have little financially to worry about. California’s Governor Gavin Newsom (D) is even able to send most California households stimulus checks on the eve of his recall election. But if the federal government pays the piper, it will soon call the tune. If states and localities lean on Washington to fund their basic operations, they will lose their autonomy. Competitive federalism, a system of government that protects American liberties and enhances their prosperity, is now at risk. 

Paul E. Peterson is a professor of government at Harvard University and a senior fellow at the Hoover Institution. Carlos Lastra-Anadon is an assistant professor of global and public affairs at IE University in Madrid, Spain.