Decentralisation is global and dynamic. In fiscal terms this raises certain questions. Who does what? Who levies what taxes? How are the imbalances between the two restored and how should fiscal institutions adjust? This working paper by Georgia State University School of Policy Studies addresses these questions, whilst acknowledging country specific circumstances with political and economic constraints. It also examines the incentives for sub-national governments to be fiscally responsible and accountable, and efficient in public service delivery.
Decentralisation does not absolve central government of responsibility. Rather, the change is from direct service delivery, to regulating and monitoring the efficiency and equity of services delivered by local governments. Constraints to the ‘ideal’ structure of intergovernmental fiscal relations include the different degrees of democracy, and the levels of competence and capabilities of sub-national governments around the globe. As far as possible, questions of intergovernmental fiscal relations must be answered locally, yet the paper highlights certain ‘universal’ principles. These, with country examples, include:
- Wherever possible, follow the ‘matching principle’ which links benefit areas with finance areas. These should then be matched with revenue resources and political accountability.
- The most critical aspect of sub-national taxing power is who is politically responsible for setting the tax rate. In Brazil, states collect and impose their own VATs, yet the rate is set centrally.
- Property taxes are problematical, fundamentally because they are an extremely ‘visible’ tax. In developing countries, they seldom account for more than 20 per cent of local revenues – less than one percent of total public spending.
- Unless local governments have the freedom to alter the level and composition of their revenues, local autonomy and accountability are redundant. Such accountability is the ‘bottom line’ of the public sector.
- Developing countries may benefit from a ‘business value tax’ (BVT) to overcome serious economic distortions produced by existing corporate income taxes, trade taxes, differential property taxes and retail taxes.
Policy pointers for the successful decentralisation of macroeconomic policies include the following:
- Transparency is needed for good fiscal management, and good fiscal management is needed for a successful decentralised structure. However, full clarity in expenditure assignment may never be fully attainable.
- In most countries, an imbalance in the vertical assignment of expenditure revenues calls for intergovernmental fiscal transfers to close the budgetary gap.
- ‘Earmarking’, which may take place to prevent local governments from wasting transfers, is distorting and should be avoided. It may connect revenue sources with expenditures in totally illogical ways, and distort local preferences.
- There needs to be an extensive base of fiscal and policy analysts at all levels.
- Intergovernmental relations should be focussed on coordination between the centre and the regions, and provide a ‘forum role’. However, local governments must be able to set their own tax rates (few countries grant this freedom). The report suggests that some conditionality may be necessary.
- Foreign borrowing should require explicit approval for central government. Problems in Argentina arose over accounting, reporting and transparency. Additionally, the problems of debt bind would discourage such borrowing.