A basic problem of federalism is now painfully clear. After a good deal of bargaining, state representatives sign a constitutional contract, as in postwar Germany or postauthoritarian Brazil, setting the rules of the game for future interactions. A critical component of the bargain is that these rules are difficult to change. At the original contracting stage, states (especially small ones) insist on strong institutional protections out of concern for future expropriation and opportunism on the part of the other states or the federal government. In addition to constitutional protections backed up by courts, these contracts usually directly include the states as veto players over key legislative issues and require supermajorities or even unanimity for the renegotiation of the basic contract.

But as we have seen, the original contracts were not negotiated by benevolent planners behind veils of ignorance. They are political bargains that often deviate dramatically from the optimal distribution of authority laid out in fiscal federalism textbooks.