The Efficiency-Equity Trade-off in a Federal System: Local Financing of Schools and Student Achievement

Abstract

Federalism theorists debate the desirability of funding local services from local revenues or inter-governmental grants. Tiebout expects efficiency gains from local funding, but Oates says it perpetuates inequalities. Research using data from national probability samples has yet to show whether efficiency-equity trade-offs are associated with funding sources. We describe the trade-off in education by estimating the effect of revenue share from local sources on math and reading achievement. Data come from national probability samples of student performances on tests administered between 1990 and 2017. Relationships are estimated with OLS descriptive models, event study models of school finance reforms, and geographic discontinuity models that exploit differences in state funding policies. For every ten-percentage point increase in local revenue share, mean achievement rises by 0.05 standard deviations (sd) and socio-economic achievement gaps widen by 0.03sd. Voice and exit channels moderate the size of the efficiency-equity trade-off. Implications for inter-governmental grant policy are discussed.