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Private-Activity Municipal Bonds: The Political Economy of Volume Cap Allocation

In 1986, the federal government placed a cap on the volume of tax-exempt municipal bonds that states can issue each year if the proceeds are used by private entities. The cap, in year 2000 dollars per capita, has ranged from just under $50 to over $400 depending primarily on a state's population. In most states and years, the cap appears to be binding, so state governments are allocating a scarce resource.

This study looks into the political economy of the allocation of the volume cap authority within states. I estimate that an additional dollar per capita of private activity volume cap authority results in an additional $0.80 per capita of private-activity municipal bond borrowing.

The regulation has a strong impact on private activity borrowing for mortgage revenue bonds and student loans. The prominence of the manufacturing and utilities sectors in the state influences the authorizations for industrial development and utilities bonds. Explicit political activity does not seem to greatly influence the process. Union members do not appear to draw authorization to their industries. Among the competing industries, only in the case of higher education is there some evidence that campaign contributions positively affect allocation decisions.

The political economy of the private activity volume cap distribution is interesting because it sheds light on an unusual type of resource allocation. The program gives elected officials, and their appointees, the ability to allocate a valuable, scarce resource without taxing their constituents or authorizing any funds from their state or local budgets. The limitations of the program result in a diverse but fairly well defined set of interests (manufacturers, utilities, mortgage lenders, commercial residential developers, post-secondary education) competing for the authorization. In an exploration of the data, we find insights into both the relative strength of the interests and the channels of their influence.

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Private-Activity Municipal Bonds: The Political Economy of Volume Cap Allocation