Asymmetric Policy Interaction among Subnational Governments: Do States Play Welfare Games?

This paper explores the possibility that states respond asymmetrically to increases versus decreases in their neighboring states’ welfare benefit levels. We present a theoretical model suggesting that states respond more to decreases than to increases in their neighbors’ benefit levels. To test this proposition empirically, we use a panel of annual state-level data from 1983 to 1994 for each of the contiguous United States and the District of Columbia, and we observe changes in state demographic and economic characteristics as well as changes in state welfare benefits. We find substantial empirical evidence that uniformly supports our argument. State responses to neighbor benefit decreases tend to be at least twice as large as their responses to neighbor benefit increases. Our empirical results are robust to modeling neighbor benefits as endogenous. Our results, therefore, have substantial implications for public policy in the wake of the increased decentralization of welfare policy associated with the welfare reforms of 1996. Asymmetric Policy Interaction among Subnational Governments: Do States Play Welfare Games? This paper presents a theoretical model suggesting that states respond asymmetrically to increases versus decreases in their neighboring states’ welfare benefit levels. To test this proposition empirically, we use a panel of annual state-level data from 1983 to 1994 for each of the contiguous United States and the District of Columbia, and we observe changes in state demographic and economic characteristics as well as changes in state welfare benefits. We find empirical evidence that uniformly supports our argument. Our empirical results are robust to modeling neighbor benefits as endogenous, using an approach similar to that employed by Besley and Case (1995). Our results, therefore, have substantial implications for public policy in the wake of the increased decentralization of welfare policy associated with the welfare reforms of 1996. Few current public policy issues have received the attention that has been focused on the decentralization of welfare benefit-setting. The Personal Responsibility and Work Opportunity Reconciliation Act of 1996, passed with bipartisan support, considerably increased individual states’ autonomy in supervising their own welfare programs. Specifically, the new law replaced the federally managed Aid to Families with Dependent Children (AFDC) program with a system of block grants to states. Although states now have considerably more flexibility to devise their own welfare programs than they did under the previous law, further decentralized benefit-setting may exacerbate an interjurisdictional externality. That is, the new law increases the possibility, at least in theory, that states will be affected by their neighbors’ welfare benefit policies. We are by no means the first authors to make this argument. For instance, researchers such as Stigler (1957), Gramlich (1987), and Brown and Oates (1987) have suggested that decentralized welfare benefit-setting could lead to a “race to the bottom.”