Rhiannon Jerch is finishing her Ph.D. at Cornell. I serve on her dissertation committee and we have co-authored this JPUBE paper together.  This blog post will discuss her job market paper.

She studies the long run urban growth consequences of the Clean Water Act's mandate in the early 1970s that cities improve their water quality through treating their wastewater.

In the absence of this mandate, how would cities have set their budget expenditures?   Millions of Americans live in small cities (cities with fewer than 150,000 people) that are not suburbs of bigger cities.  The local government in such cities collects tax revenue and receives transfers from the federal government and state government and uses these resources to provide basic services to their constituents.   Basic economic logic posits that these local leaders will optimally allocate such expenditures. Thus the local "bang per buck" spent on each local public good will be equated.  This is the standard efficiency first order conditions.

This equilibrium would be a pareto optimum if there weren't cross-city externalities and if cities didn't face lumpy adjustment costs.  Rhiannon's starting point is that cities are not independent islands.  She is interested in water pollution externalities.  Given that rivers flow in one direction, some cities are upstream and some are downstream.  If an upstream city j does not invest in water treatment, then much of the costs of this under-investment are borne by city m downstream.    Such cross-boundary spillovers provide an immediate rationale for federal intervention.

Rhiannon has to work hard to create her spatial panel data set as she identifies which cities are upstream and downstream of whom.   Coasian logic helps her to create an instrumental variable for whether a city has already made wastewater treatment investments before the Clean Water Act.
Suppose that a major city is downstream from the polluter.  Such a city will use its clout (because of the total damage it is suffering under the status quo) to either compensate or sue the upstream city to take costly actions to mitigate the water pollution.    This means that the 1970s Clean Water Act was less likely to be binding for such an upstream city because it is connected to a major downstream city.  The modern LATE literature is subtle about who is the "marginal city" affected by an instrument or a surprise mandate and Rhiannon's paper has this flavor.

A direct quote from her paper concerning the findings;

"In aggregate, this change in cities’ amenity-tax bundles had insignificant impacts on population growth or housing prices, suggesting that the mandated infrastructure was at least valued at its marginal cost to local residents. However, the aggregate effects mask important sources of heterogeneity in city responses. Per capita compliance costs were 20% higher among smaller cities unable to exploit scale economies in infrastructure realized by larger cities. Despite having higher compliance costs, I show that smaller cities received less grant funding per resident and used those funds more efficiently relative to larger cities. These results suggest that both efficiency and equity could have improved under the CWA federal aid program if grant allocation followed city-specific abilities to benefit from scale economies. Lastly, I show that the value of mandate compliance to local residents is greater among cities with warmer summer climates, closer proximity to large waterbodies, and greater exposure to upstream abatement."


Rhiannon and I have often spoke about the complementarity between public capital upgrades and private capital investment.   Intuitively, if rich people are willing to pay more for a condo near the water if the water is clean and the air is not polluted then this is an example of such complementarity.   In my own research, I have explored this theme here.

Her core question of "who benefits and who loses from federal mandates?" is important.  My prior had been that the affected cities would lose because this mandate would be a binding constraint that would force them to substitute away from activities that were privately beneficial.   Her result suggest that one must  be a bit more nuanced here. There are cases in which a federal mandate imposed on a locale may improve quality of life in the affected place (as well as in the downstream areas that have been suffering from the Pigouvian spillovers).

Rhiannon's work makes an original contribution to environmental, urban and public finance economics.  The field is moving forward!