This dissertation examines the nature of states' choice of AFDC benefit levels in order to determine the sources of interstate variations in AFDC benefits. Like previous studies, a state's financial and demographic characteristics are modeled as playing a significant role in the benefit choice. This study extends the literature by also formally modeling the role of the financial and demographic characteristics of a neighboring, or rival, state. The characteristics of another state are expected to influence the state's benefit choice for the following reason. Each state wishes to provide some minimum living standard for its citizens (the AFDC benefit level). The provision of this minimum living standard costs the state not only in terms of the dollar value of the offered benefit, but also in terms of increased total financial obligations if the chosen benefit level attracts recipients from the rival state. Each state, therefore, accounts for this "caseload" price of the benefit level by incorporating the level of interstate migration induced by any feasible benefit level, taking that of the rival as given, into its benefit decision. This interstate AFDC benefit-setting competition is modeled as a two state generalized game. The model's implication are derived and empirically testeµ. The results of the empirical tests support the game theoretic model; The observed pattern of interstate variations in the AFDC benefit level is consistent with the model's implications. The data further suggest that the degree of competitiveness, as indicated by the significance of the rival's characteristics in a state's benefit decision, varies inversely with the distance between the competing states. The model is then used to simulate the impact of the "New Federalism" proposal on the AFDC benefit level. These simulations indicate that, if enacted, the proposed "New Federalism" changes will significantly lower the average per recipient AFDC benefit level. The simulations also indicate that the greater the degree of competition between the states, the larger will be the magnitude of the decline in the benefit level. / Ph. D.