How should responsibility for expenditure be assigned among different levels of government? Which revenue sources should be assigned to subnational government? This paper from the World Bank Institute examines the principles and difficulties of expenditure and tax assignment. It argues that fiscal decentralisation requires a clear assignment of functional responsibilities among different levels of government, together with sufficient budgetary autonomy for subnational governments.
The adequacy of any assignment of expenditure has to be judged according to how well it achieves the goals of decentralisation. Common objectives for fiscal decentralisation include the efficient allocation of resources, equitable provision of services and preservation of macroeconomic stability and promotion of economic growth. While there is no single best assignment, a number of general principles can facilitate the assignment of expenditure responsibilities. Responsibility for the provision of services should be at the lowest level of government compatible with the size of the area benefiting from those services. Further principles include the importance of clear and stable assignments and that redistribution and macroeconomic stability are best pursued by central government.
Regarding revenue assignment, the assignment of tax powers can provide political benefits related to subnational sovereignty, accountability and tax competition. In order to realise such benefits, tax assignment should provide subnational governments with their own revenues whose level they can control. Furthermore, a given tax should be assigned at the lowest level possible for which it is not inappropriate. A system of tax assignment designed in accordance with these principles may still produce vertical fiscal imbalances or horizontal fiscal disparities. Grants to offset these should not affect the marginal decisions of subnational governments regarding the choice between public and private spending.
Common problems with expenditure assignment include lack of formal assignment, inefficient assignments, ambiguity in certain assignments and co-sharing of responsibilities. Recommendations for reform in expenditure assignments include:
- Establishing a formal assignment of expenditure responsibilities and reassigning selected expenditure responsibilities
- Reassigning capital investment responsibilities and facilitating capital investment at the subnational level
- Establishing an autonomous subnational development fund with responsibility for borrowing and investment projects in order to promote lending to subnational governments for long-term capital investment
- Establishing a coordinated national policy to facilitate the divestiture of social responsibilities by state enterprises
- Considering the introduction of policies that guarantee desired minimum levels for certain services at the local level
- Establishing clear sectoral policy objectives to improve efficiency in key sectors, such as housing, education, health and social welfare.
A variety of methods of revenue assignment can be distinguished. They differ in degree of autonomy provided to subnational governments, ease of administration, fairness and neutrality, and the degree of inter-jurisdictional redistribution they accommodate. They include:
- Independent subnational legislation and administration – this provides subnational governments with the most fiscal autonomy, but is vulnerable to inconsistency, duplication of effort and excessive complexity
- Subnational surcharges – these provide most of the important aspects of fiscal autonomy of independent subnational legislation, without the inequities, distortions, complexities and problems of compliance and administration
- Tax sharing – this avoids the problems arising from extreme subnational independence in tax policy, but severely restricts subnational fiscal autonomy
- Revenue sharing – this provides for the redistribution of financial resources between jurisdictions, but does not provide any autonomy for subnational governments in terms of raising revenue.
