An empirical model of transfers within a federation, with an application to the European Union

We construct a stylized model of transfers within a federation and apply it to the European Union. Our approach differs from that of most of the existing literature in that we fix the preferences for redistribution of resources among a federation's members, rather than fix the current budgetary rules or modify them on the basis of assumed scenarios. The model is tested (successfully) by assessing its ability to predict the effects of the last (1995) enlargement on the European budget. We then use the estimated model to predict the reallocation of the Union's net transfers after the upcoming Eastern enlargement. Our estimates of transfers to the incoming member states exceed those of the rest of the literature. Our results can be interpreted in one of two ways: first, either the European Union, in its collective decision-making process (that in the future will include the five incoming countries as voting members), will institute new rules and programs to further reduce the regional disparities in income, or second, if the current rules and programs are maintained, then the Eastern enlargement would result in a reduction in the "depth" of the Union. The approach we introduce can be more generally applied to the analysis of other intergovernmental or international organizations.