Developing and transition economies (DTEs) have undergone a major transformation of their public sector in the last decade. This World Bank Policy Research Working Paper examines the reasons for the rekindling of interest in fiscal rearrangements in DTEs. It reviews progress to date by using a systematic framework that draws on experiences in both industrial and non-industrial countries. General and institutional lessons on creating an enabling environment for responsive and accountable local governance are drawn.The success of decentralised decision making depends heavily on citizen voice, choice and exit options. These areas require significant attention in the on-going reform efforts.
The varying degrees of success in public sector reform in DTEs over the last decade are illustrated. For example, Argentina and Malaysia are cases where a stable authorising environment has been achieved. This is where there is a significant degree of societal consensus on the roles and responsibilities of various levels of government and their partnership with civil society. Other countries such as China and Russia are still searching for a consensus on the right balance. In yet other countries these issues have not yet received the political attention they deserve. Some of the key findings are that:
- The overall thrust of the changes described manifest a trend towards devolution and /or localisation.
- Expenditure assignments in DTEs have undergone significant changes in the past two decades.
- In areas of shared responsibility such as education, health and social services, policies of various levels of government are typically uncoordinated.
- The design of intergovernmental transfers is of critical importance for efficiency and equity of local service provision and fiscal health of sub-national governments.
- Adherence to federalism principles is a necessary but not sufficient condition for success of decentralised decision making. Institutional considerations must be taken into account.
Contrary to common misconception, a developing country institutional environment calls for a greater degree of decentralisation than that needed for an industrialised country. The following important policy implications can be distilled from this review:
- An enabling environment for decentralisation, i.e. institutions of citizen participation and accountability, must be addressed in any serious reform of fiscal systems.
- Civil service reform is critical to the success of a decentralisation programme.
- Asymmetric decentralisation offers a thoughtful approach to decentralisation.
- A major separation of spending and taxing decisions leads to a lack of accountability in the public sector.
- Intergovernmental transfers in developing countries undermine fiscal discipline and accountability while building transfer dependencies that cause a slow economic strangulation of fiscally disadvantaged regions.
- Fiscal rules accompanied by ‘gate keeper’ intergovernmental councils/committees provide a useful framework for fiscal discipline and fiscal policy coordination.