* This paper is the product of a study of the causes of government expenditure funded by the Lilly Foundation. It was written while I was a member of the UCLA economics department. I would like to thank my colleagues in that department, and especially Harold Demsetz, for suggestions and comments.
1The idea that the main determinant of present expenditure is past expenditure is discussed in Sharkansky (1967), criticized in Harlow (1968) and defended in Sharkansky (1968). Further justifications for theories in which governments do not behave like rational maximizers are in Buchanan and Tollison (1972), Buchanan and Tullock (1962), Olson (1965) and Wildavsky (1964).
2The idea that government expenditure might be affected by the elasticity of the tax base is not original with me; see Craig and Heins (1980), Oates (1975), and references therein. Both Craig and Heins and Oates limited themselves to the relation between recent spending growth and roughly current measures of elasticity, so their results show only that it takes states at least a few years to adjust their tax levels to increases in income.
3Bahl and Saunder (1965,1966 1,2),Bolton (1969),Gramlich (1969 1,2),Gramlich and Galper (1973), Harlow (1967), Kurnow (1963), Oates (1968), O'Brien (1971), Ohls and Wales (1972), Osman (1966,1968), Sacks and Harris (1964), Smith (1968), Wilde (1968).
4This point is discussed in Pogue and Sgontz (1968).
5 It may be objected that if federal aid really is both an effect and a cause of state revenue, then ordinary least squares is an inappropriate procedure whether or not federal aid is included in the regression. But in order to do a two stage least squares or equivalent I would require an instrumental variable--something which affects federal aid but which I know, a priori, is unrelated to revenue except through its effect on federal aid. It is by no means obvious that such a variable exists. In any case, while ordinary least squares may give biased estimates for the coefficients, the coefficients are not what I am really interested in. If my null hypothesis is true (i.e. if the elasticity variable does not affect current revenue) then whatever the relation between federal aid and revenue it should not affect the results of the regression that omits federal aid--unless federal aid is itself related to past elasticity, a possibility I discuss. Hence the reported t values correctly describe the improbability that, if the null hypothesis is true, I would have gotten my results by chance.
6My estimate of E, the elasticity of all other taxes, is simply the estimate of D x E in equation 5 divided by the estimate of D