Grant Effects on Public Finance for Local Governments with Self-Selection Behavior

This paper estimates causal effects of intergovernmental grant effects on expenditures and tax revenues of all municipalities and cities in the Philippines over the period 1993–2016. This is done by firstly utilizing a rule-based grant distribution scheme. Second, we apply an instrumental variable approach to correct a noticeable self-selection bias in the Philippine local governance, where a municipality can opt to convert to a city to receive more grants once it meets conversion criteria. Our finding shows that one-peso increase in grant per capita induces 0.84-peso increase in local expenditure and has zero effect on local tax revenue. The results provide evidence of a flypaper effect among both municipalities and cities in the Philippines. We also show that there are heterogeneous flypaper effects, as the cities or high-income local government units exhibit greater flypaper effects on public expenditure