Can state and local government capital spending be a vehicle for countercyclical policy? Evidence from new interview and survey data

Abstract

This paper investigates the extent to which state and local government capital spending in the United States can be an effective vehicle for countercyclical policy. Policy responses to recent cyclical downturns have included a variety of policies to encourage greater spending at the state and local level, including efforts to lower borrowing costs for these governments, but the effectiveness of these policies remains unclear. To examine the effectiveness of state-local capital spending as a countercyclical tool, I use a unique data set consisting of open-ended interviews with state and local budget officers and a survey of state governments. I find that at present, there are significant barriers preventing countercyclical state-local capital spending. First, interventions to stimulate capital spending via easing financing conditions are likely limited by two factors: some governments use minimal amounts of borrowing to finance capital spending, and for governments that do rely primarily on borrowing, capital spending appears insensitive to interest rates. Second, state and local capital spending decisions involve substantial lags, making it a poor vehicle for countercyclical fiscal policy even in the absence of financing constraints. Third, state-local budget officials do not view capital spending as a tool for economic stabilization.

Keywords:

• Capital spending
• countercyclical policy
• fiscal policy
• state-local government budgets

Notes

1 Capital spending is defined here as spending on construction and purchases of equipment and land.

2 Open-ended interviews are interviews where open-ended questions are asked. Open-ended questions do not restrict a respondent’s answers to a predetermined set of choices. For example, “What are the most important factors in understanding why capital spending falls?”