Price Discrimination and Federal Project Grants

Abstract

A discriminating monopoly model of bureaucratic behavior was developed to explain the distribution of project grants to state and local governments. By varying matching rates according to differences in the elasticity of each community's offer curve, the grant administrator attempted to maximize the expenditure inducement effect per dollar of federal aid. The implication is that the allocational effects of intergovernmental aid depend both on local reaction functions and on the degree of bureaucratic discretion in the distribution of aid. The model was tested using the HUD Basic Water and Sewer project grant, and it is shown that matching rates vary systematically with a community's own expenditure level, its per capita income, and its population. Price discrimination was found to increase over time, leading to an increase in expenditures mandated by the grant.