Under a foundation aid system, the tax price is one, just as under local finance and flat grant categorical aid. Foundation aid creates lump sum transfers that depend on districts’ property value per pupil:
The middle term of (12) is a just tax on housing and land service wealth, but the right-hand term of (12) is a tax on education tastes and school productivity.
Let us compare foundation aid to flat grant categorical aid that attempts to achieve similar redistribution. This comparison not only clarifies the economic issues (because it holds the redistributive goals constant), it is also a practical comparison. As an historical matter, Foundation Aid schemes generally replaced categorical aid schemes. Districts that receive money under foundation aid that would not have received money under categorical aid are districts in which households prefer to spend an unusually small share of their incomes on schools.
Districts that lose money under foundation aid that would not have lost money under categorical aid are districts in which households prefer to spend an unusually large share of their incomes on schools. Thus, average school spending under a foundation aid scheme will be lower than under similarly redistributive categorical aid. Because foundation aid generates income effects that are systemically related to households’ taste for education, it creates leveling-down compared to categorical aid.
Another difference between categorical aid and foundation aid is that capitalization will eventually un-do much of the redistribution in a foundation aid scheme. This is because the foundation aid scheme itself can be capitalized (in part, at least) by property prices. House prices will fall in districts that must routinely make net revenue transfers to other districts. Conversely, house prices will rise in districts that routinely receive net revenue transfers from other districts.
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The tax base for categorical aid (income or sales) is at the same level (the state) as the redistribution so that the tax is effectively a sunk cost for households choosing among houses within the state. In contrast, the tax base for foundation aid depends on exactly how much one house is preferred to another house within the state and, since many households are on the margin of choosing among houses within a state while retaining the same job, the intra-state distribution of house prices will take the redistribution scheme into account.
I measure the stringency of a foundation aid system by the share of the revenue from a marginal dollar of property value that a local district gets to keep:
To remind us capitalization and not just housing and land service wealth is taxed, I call this measure SORCALE, the share of revenue from capitalization available for local expenditure.