3. Resource Availability
3. Resource Availability
There are basically three, interrelated, themes falling under this heading which are relevant to the present survey. The first concerns the distribution of taxation and expenditure under the centralisation/ decentralisation alternatives. Or, in other words, the assignment problem of 'who collects and gets what'. Another relates to the degree of financial autonomy of local governments versus dependence on central transfers. The final theme raises an efficiency issue, of whether decentralisation increases the total amount of resources mobilised for public expenditures - 'how much is there?'. There exists a substantial body of literature which relates generally to each theme; although the empirical aspects of the third are less often addressed.
To summarise the findings of the present section, it is seen that the distribution of revenue sources and expenditure responsibilities between different levels of government is such that local public expenditures tend to exceed own-source revenues. The heavy reliance of local government upon central transfers means that their degree of financial autonomy tends to be quite limited; and hence such authorities may in reality be less independent than first appears. However fiscal imbalances do not necessarily indicate an inappropriate allocation of governmental responsibilities and powers. The goals of fiscal equalisation, principles of 'good' taxation and administrative considerations may all point to a substantial role for central transfers. The task is to structure these transfers such that any adverse incentive and efficiency implications are minimised. Finally, it is found that while the impact of decentralisation on revenue raising is controversial, the most relevant evidence suggests that governmental structure and public resource mobilisation have little to do with each other.
The Distribution of Revenue Sources and Expenditure
The assignment problem is an important theme in the literature about revenue mobilisation in a decentralised system (see, for example McLure (ed.) 1983). It explores which fiscal instruments are most appropriately allocated to the different levels of government. There are obviously important inter-relationships at work here: the appropriate delegation of revenue authority to local governments will depend, to some extent, on the assignment of expenditure responsibilities.
A highly generalised picture of expenditure responsibilities in developing countries might be painted along the following lines. Local government spending tends to be directed towards the direct provision of certain public goods and services, such as primary education and basic health care. Higher authorities have significant expenditures in such areas as defence and security, transport and communications infrastructure, and 'other', which includes public administration. Overall, developing countries tend to have (relative to industrial countries) small, centralised public sectors (Oates 1985).
If it is accepted that the national government has primary responsibility for horizontal fiscal equalisation, economic stabilisation and management, as well as significant expenditure responsibilities in such areas as major economic infrastructure, it follows that the centre should exercise control over the most important (lucrative) and flexible, as well as the main redistributive tax sources. The general principles of 'good' (i.e. efficient) taxation, which are discussed below, also point in this direction.
Bahl and Linn (1983) argued that for a given set of expenditures, local governments should, on the grounds of efficiency, distinguish between services having the characteristics of (i) pure public goods - which should be financed by taxes; (ii) excludability - financed by user charges; and (iii) externalities - by intergovernmental transfers. The 1988 World Development Report put forward a similar proposition. However it is very difficult to apply and justify such a simplistic classification in practice (Gandhi 1983); an obvious example being a clean water supply, a public utility which has significant externalities.
It should be borne in mind that decisions about the assignment of functions and finances to different levels of government can be appraised from a more politically oriented perspective, and the process regarded as one of allocating authority between different (and possibly conflicting) power centres (Bird 1990). It has been said that state and local governments exist in the form they do and with the functions and finances they have, neither to maximise democratic access to government nor to provide public services as efficiently as possible, but rather as a result of many complex historical and institutional factors. Moreover, it is a "common characteristic of most intergovernmental fiscal systems that there is considerable confusion and obscurity as to who exactly is responsible for what and how precisely various public services are delivered and paid for" (ibid).
Below we examine two potential sources of revenue for local government, taxation and user charges, outlining the underlying principles and current practice. Attention is paid to the structure of local systems of taxation and the bases which tend to be relied upon; the use and appropriateness of local cost recovery; and the practical constraints faced in revenue collection. It is noted that there are few effective and broad based tax handles available to governments in developing countries, and that "irrespective of the level (of government) to which these taxes are assigned, often their bases are limited and their collection inefficient". However overall it is found that for various reasons, theoretical and political, local tax bases tend to be more limited and fragmented than those exploited by the centre. Moreover, administrative weaknesses appear to undermine the local tax effort to an extent greater than that suffered by the centre. The discussion about user charges focuses upon the revenue raising ability and equity implications, and concludes that on efficiency and equity grounds there is a strong case for charging consumers of certain public services at higher levels of provision (e.g. for university education). However it is emphasised that those same considerations mean that the nature of the services provided by local governments, especially in the areas of basic education and primary health care, are inappropriate candidates for cost recovery. It is seen that in practice user charges, levied on a consumption basis, have not been widely utilised at the local level.
Theory
The basic underlying theory of taxation is fairly well established, and leads to several general principles of 'good' taxation. The first proposition is that a tax base should be inelastic - in the sense that imposition of the tax on a particular good or activity will not lead to a decrease in consumption of the good or engagement in the activity within the jurisdiction. This leads to the Tiebout-type prediction that mobility places limits on variations between the taxation policies of different local governments - and that tax bases which are highly mobile are more appropriately taxed by a higher level of government, unless localities have uniform rates or if variations reflect local preferences and benefits. There are therefore economic constraints on local taxes, given the reactions or distortions which may result. The local tax jurisdiction can be likened to a very open economy, in which the dis/incentive effects of local taxation together with the assumed mobility of local residents and capital place severe limits upon variations in local rates between localities (Brennan and Buchanan 1980). Another general principle is that tax bases which are unevenly distributed between localities - such as those on natural resources and trade - are inappropriate candidates for decentralisation, because of their repercussions for equity. It has been argued that income redistribution and stabilisation are within the proper province of the national government, and that localities should not seek to further these objectives through such means as corporate and personal income taxes (Musgrave 1983).
On the other hand, insofar as the feasible set of tax instruments is crucially determined by the information actually available to tax authorities (Newbery 1988), local governments may enjoy a comparative advantage. Information must be collected, tax liabilities calculated and payment enforced. Decentralisation may permit more detailed local knowledge, aiding more efficient tax administration, especially where accounting systems differ significantly between areas (Helm and Smith 1987 p.xii; refer to the discussion of information in Efficiency above). Moreover the so-called visible benefits principle can be interpreted as a justification for the transfer of revenue powers to those levels of government 'closer' to the people (taxpayers), given the increased willingness of beneficiaries to 'share the burden' where they can actively participate in the design and management of projects, and better hold decision makers to account for their actions.
Thus certain kinds of taxation appear to be more suitable for decentralisation - on such items as real property, vehicles and perhaps retail sales. Taxes on external trade and resource rents, personal and corporate income, all of which are important revenue sources in developing countries, are more appropriately levied by the central government.
Practice
The following paragraphs describe the nature of local tax systems, in particular their fragmented nature, centrally imposed restrictions and the administrative constraints actually faced. It is found that poor local tax performance can be largely attributed to inadequate effort and capabilities, as well as to the disincentives and restrictions imposed by higher authorities. At the same time, inadequate yield is a marked shortcoming of national taxation systems in most developing countries. Tax evasion and avoidance, as well as political obstacles to increased tax yields, exist at all levels of government. The task here is to assess the comparative shortfall at local, vis-a-vis, national levels. More generally it appears that urban municipalities will often be better able than their rural counterparts to mobilise local resources, given their access to more lucrative taxation bases, the nature of local tax instruments (motor vehicles, sales and business), and greater perceived creditworthiness.
Tax bases
While local governments exploit a range of revenue sources, the general pattern does tend to conform, to some extent, to the theoretical principles outlined above. The major source, which is almost universally applied, is the property tax. In Asia and Latin America, property taxes on buildings and land tend to be the most frequently used instruments for raising local revenues. It accounts for more than two thirds of local tax revenues in the Philippines, and is important in China, India, Korea and Pakistan. The next most popular taxes are those on motor vehicles and entertainment (Bahl and Linn 1983). The former is said to represent an "excellent (for efficiency and equity reasons) but neglected tax base for urban governments" (Bahl, Holland and Linn 1983). The category of 'all other taxes'- "a motley collection of nuisance taxes which are often costly to collect and comply with" (Bahl and Linn 1983) - contribute a sizeable share to local revenue in some jurisdictions.
Yet local governments typically face practical difficulties in revenue raising, particularly in the limitations set nationally and administrative problems. Local governments are often actively discouraged from fully exploiting potential revenue sources by a wide variety of central checks, controls and hindrances (Bird 1990). This may be motivated by economic considerations, as well as by popular sentiments. Generally central governments tend to reserve for themselves the most buoyant and lucrative revenue instruments (although, as noted above, there may be sound efficiency reasons why this should be the case).
Administrative feasibility places severe limits on the revenue raising capability of all levels of government in developing countries (see Newbery 1988). The practical obstacles which inhibit efficient revenue collection and cause substantial revenue shortfalls are by no means peculiar to local government. The prerequisites of staff competence, well-defined tax legislation, and effective means of enforcement present acute problems at the national level (Goode 1990). The tax system is typically in a state of flux, compliance low and enforcement lax (Newbery 1988). Institutional, political, administrative, structural and cultural constraints characterise the tax systems of developing countries at both national and local levels. The interest here therefore lies in assessing the relative revenue competence of local versus central government.
Ideally, we would want some quantitative assessments - of net revenue yields (in terms of potential), staff and skill shortages, and the extent of tax evasion - on a comparative basis for the various levels of government. In practice however, one is forced to rely upon more anecdotal-type evidence. In some respects - due to, for example, the lack of qualified staff outside the national capital, the fragmented nature of local tax bases and limited enforcement jurisdiction - it appears that administrative problems may be relatively worse at the local level, especially in rural and remote localities. In some other respects, local governments may be better vehicles of revenue collection, such as in maintaining current registers of taxpayers and property, and cost recovery.
There is substantial evidence which reflects administrative weakness at the local level. Rondinelli (1990) regards this as the most "immediate and crucial problem". A World Bank (1988) survey of 25 countries concluded that administrative weaknesses meant that only 5-25% of local revenues were raised by property taxes, except in Africa, where reliance on property taxes is generally higher and has grown in real terms. In more than half of the Asian and Latin American countries, the real value of property tax revenues has declined. The greatest erosion was experienced in countries with high rates of inflation (WDR 1988). Even when a simpler head (poll) tax is imposed, the task of maintaining a current census of population may exceed local administrative capacity.
Tax evasion and avoidance are serious problems in many countries around the world (Mathews 1983). Incentives and opportunities determine the degree to which it occurs. Public attitudes with respect to tax morality and the ability of authorities to take deterrent, and if necessary, punitive action, are also important. Compliance may be enhanced by taxation systems which are disaggregated among a number of localities, each of which is less remote from the individual taxpayer than the centre. In West African countries the names of 'delinquent' village taxpayers often remain on display at the local administrative center - which generally leads shamed relatives to pay the amounts owing in a short time (Local Revenue Administration Project, 1983). It should be noted that the penalties for tax offences which exist at the national level are rarely assessed and enforced, particularly criminal sanctions (Gordon 1990). The perception that tax avoidance will pass undetected may increase rates of non-compliance.
Evasion may be particularly acute at the local level, given the more limited jurisdiction and enforcement powers. Expropriation procedures for failure to pay taxes, for example, are generally governed by higher level legislation, rendering enforcement cumbersome and ultimately less likely. Furthermore, opportunities for non-compliance will be increased if tax units are mobile among local taxation systems. Although there are many examples of cases where ineffective enforcement undermines local revenue raising, no quantitative evidence could be found as to its significance relative to that at the national level.
There are some examples of successful efforts in increasing local government revenues. Improving the administration of property taxes is evidently an important means of achieving better local revenue performance. Among other possibilities, taxing the ownership of motor vehicles also appears to be a relatively efficient and equitable local source of revenue.
Cost recovery
Local and central authorities may seek to recover the marginal or average costs of publicly provided services, including depreciation and interest charges. This possibility gained increased attention over the last decade as the international monetary agencies explored means of increasing revenue mobilisation in developing countries (see Jimenez 1988). There are, however, very significant concerns surrounding the appropriateness of such charges, particularly for basic social services.
User fees for basic social services raise important efficiency issues, particularly where significant positive externalities exist. A health clinic, for example, provides benefits to those not inoculated against contagious diseases. Efficiency requires charging users less than the marginal costs of the vaccination service, and financing the remainder of the costs from general revenues. If the price is set too high, the service will be underused and the society as a whole will suffer from not having a healthy and (at least potentially) productive population. Similarly, the social rates of return are high on investments in all forms of education, particularly primary education. The benefits are also indirect (higher productivity) and non-monetary (lower fertility rates). Further, distortions in related markets (credit and insurance), which can be viewed as a divergence between private and social benefits, have important implications for efficiency.
There are also significant equity concerns. Take the example of clean water, and the facts that the income elasticity of demand is relatively low, and that household size and income may be negatively correlated. Recent evidence drawn from Ghana, Lesotho, and elsewhere has shown that the introduction of user charges led to decreased utilisation of the relevant social services, particularly in rural and remote areas. Although negative repercussions might be avoided through different charges for different income groups, means testing is administratively difficult.
On the other hand, it has been argued that blanket policies in favour of 'free' provision across the board have resulted in inefficiency and inequity (Jimenez 1988). It is said that the absence of fees has led to underinvestment in the social sectors and the inability to ration scarce services according to need. Access to free public services is limited in practice, and those who are forced to resort to private provision are often the poorest. The better off, who have been found to enjoy greater access to the most costly services (e.g. university education and health care in urban hospitals), have been subsidised the most heavily. It follows that cost recovery must be sufficiently high to provide adequate revenues for maintenance of an effective service, deter over-use, and avoid rationing by less efficient and less equitable means. This argument is more convincing with respect to higher level, rather than basic, services.
According to its advocates, user charges are particularly relevant to local government - as a means of financing recurrent costs and avoiding reliance upon central transfers (e.g. Bahl and Linn 1983). Indeed, the first of the four criteria for efficiency in raising local revenue listed by the World Development Report 1988 is that "the cost of providing local services should be recovered, to the extent possible, from charges on the beneficiaries" (p.159). This is said to be "especially important at the local level because, being closer to beneficiaries, local public services are more amendable to such charges than services provided by higher levels of government" (p.160).
The World Bank (1988) reported that in 25 developing countries surveyed, user charges accounted for nearly one-third of all locally raised revenue. Within its definition, however, the Bank includes both consumption-related and benefit-related charges. The latter are one-off payments for a particular project having the characteristics of both taxation and user charges; although given that one cannot choose whether or not to use the service (pay the levy), it is more akin to a tax. Betterment levies have been used extensively in Colombia, India and Indonesia as an indirect means of recovering costs from landowners pro rata who enjoy the benefit of public improvements nearby or on their property (Bird, 1984). In New Delhi, for example, such charges are used to recover 50% of the cost of public works (Rondinelli, 1990). Alternatively, municipal governments have recovered the cost of services through land readjustment - whereby landowners pool their property for service improvements and contribute sufficient land to compensate the government. This has been done successfully in Taiwan, Thailand, South Korea (Rondinelli, 1990).
Clearly, municipal governments must have the requisite technical capability to levy and collect such charges. It has been argued, for example, that metered water is a "pipe dream" in most developing countries (Gandhi 1983).
Betterment levies have met difficulties in assessing the surplus value attributable to public improvements, and determining the "zone of influence" in identifying the properties benefited. It may also be hard to estimate total costs prior to project completion. This was a problem in Colombia, so that collections tended to be unstable and erratic (Bird, 1984).
Levying charges may be politically difficult. In Pakistan, for example, local authorities were reportedly unable to recover costs from squatter communities, even though (or perhaps because) some of the residents were not poor (Rondinelli, 1990). National governments may limit the utilisation of user charges on the grounds of inflationary pressures, or feared political repercussions.
Thus the issue of cost recovery is, as the discussion in HDR 1991 indicates, a complex one. It is submitted that there may be damaging repercussions for the principle of equity and universal access, and the net revenue gained may not, in any case, be significant. Whilst this basic argument applies to a range of public goods and services, it is particularly relevant to priority social expenditures. The Report concludes that primary schooling should be free, and that there is a strong case for secondary education to be free also; that primary health care should be free, although some charges for drugs and hospitals may be justified; and that users might contribute to the recurrent costs of water and sanitation, whilst the government should bear the capital costs (p.67). At the same time user charges could be introduced which discriminate on the basis of type of service, exempting, for example, residential water, basic education and primary health care; and recovering a substantial part of the costs of such higher level services as sophisticated health care in urban hospitals and university education.
This implies that central governments are more likely to be able to levy fees with fewer adverse repercussions, given that the level of provision is generally higher; and that local governments, which typically provide basic social services, ought to rely on central grants and local taxation rather than user charges. The review of country experience showed that, apart from the special case of betterment levies, local authorities in developing countries have rarely been willing and able to fully exploit user charges as a revenue instrument. Zimbabwe, Lesotho, Kenya, Indonesia and Botswana have abolished primary-level education fees during the past decade (Jimenez 1988).
Financial Autonomy and Central Transfers
It follows from the foregoing discussion of local revenue raising possibilities that vertical fiscal gaps are likely to emerge, and that intergovernmental transfers will play a critical role. Here we examine intergovernmental financing arrangements, with particular interest being accorded to the impact of the structure of transfers upon the degree of local autonomy. (The significant redistributive aspects of such arrangements are discussed below, in the context of Equity, and are not detailed here; the impact of grants on total resource mobilisation are discussed in section 2.3 below.)
First this section explores the basis for the widespread belief in the need for financial autonomy at the local level, at both theoretical and practical levels. It goes on to describe the nature of the systems of central grants generally found in developing countries. While cognisant of the difficulties of measurement, it proceeds to present a picture of the limited degree of local government financial autonomy which exists today.
Rationale for Financial Autonomy
Financial autonomy can be defined as the ability of government units to finance own expenditures from own revenues. Thus in the model presented above, it was presented as a special case of the general allocation of taxes and expenditures.
One recurring theme in the literature on decentralisation is the importance of financial autonomy. This is invariably seen as a crucial ingredient in explaining the success (or, more often failure) of programmes for decentralisation. As one well known observer noted, lack of financial autonomy "reduces the burden, but increases the dependence of, local authorities, who generally neither impose taxes nor have to justify to local populations how money is spent" (Rondinelli 1983 p.49).
To summarise, the emphasis on local financial autonomy is based on the following propositions:
(i) Independence. It is generally believed that genuinely independent decision making will not emerge at the local level unless local governments have a significant degree of financial autonomy. Otherwise local authorities will merely be the 'deconcentrated agents' of the center.
(ii) Incentives. Local decision makers lack incentives to behave 'properly', and according to local needs, unless the resources being expended are those of the local constituency, to which the decision makers are accountable. In other words, financial autonomy makes local decision makers more sensitive to both costs and local priorities.
On the other hand of course, equity considerations may well point in the opposite direction, in favour of central transfers. Once the national government accepts the role of ensuring at least a minimum degree of parity in the provision of public goods and services among localities, some form of fiscal equalisation grants would tend to follow. Given the substantial regional disparities which characterise many developing countries, this redistributive function is likely to be crucial. Grants are also a primary means for overcoming the problem of spillovers (externalities). Further, as to incentives and accountability, there exist other perhaps more effective means of ensuring that local decision makers are responsive to both costs and local priorities, such as local elections. The nature of the grant system is another crucial variable - strictly tied grants have more far reaching repercussions for financial autonomy than do lump sum transfers. These points are often forgotten by those commentators who lament the lack of financial autonomy.
The available quantitative evidence as to the extent of local financial autonomy shows the following. For the small sample of countries for which data is presented in the IMF GFS, we can observe a range of degrees of local financial autonomy (table 1). Measured in terms of local own, as a percentage of total local revenue, Indonesia is the least (at 22%) and Kenya the most independent (98%). Local own revenue as a proportion of local expenditure shows a similar pattern. The average degree of local autonomy across the sample stands at around 64%.
| Own revenue as a % total local revenue | Own revenue as a % of local exp. | |
| Chile
Colombia Indonesia India Kenya Malawi (1984) Malaysia South Africa Thailand Zimbabwe Brazil |
64
87 22 56 98 95 73.6 88.7 68 51 79 |
61
59 22 48.8 98.9 67.4 64.8 90 73.6 58 75.9 |
Experience has shown that financial dependence can increase local government vulnerability to central domination, in terms of formal controls (e.g. tied grants) and more covert modes of influence, as well as the economic fortunes of the national government.
In principle, central grants can have several objectives. These include the reduction of vertical and horizontal fiscal imbalances; reduction in differences in fiscal capacity between local governments resulting from different resource endowments and economic structures; ensuring a similar pattern in the provision of services in each locality, at least to a minimum level; and internalising externalities - the use of grants in the latter case derives from Pigou (1947) and is usually referred to as "the compensation principle". According to Bird (1990, p.281), the "essence of the (intergovernmental) finance problem is how to adjust fiscal transfers to achieve tolerable results in the face of clearly non-optimal assignment of functions and finances".
Grants can be differentiated by the degree to which they are need-related (Bennet 1982). Grants can be allocated on the basis of measured geographical differences in needs, or in costs of servicing those needs. These arise mainly from differences in the number of client groups, and in the size and density of local jurisdiction. Usually expenditure need is measured on the basis of a national minimum standard. Alternatively, grants can seek resource equalisation in the revenue base of local governments, given the same tax effort. Revenue-equalising grants seek to overcome unequal tax bases by distributing grants preferentially to those local authorities which for a given tax effort have a small tax base as against those authorities with large tax base. Unitary grants combine features of each of the two approaches, with the advantage of simultaneously compensating for disparities in both tax bases and local spending needs.
More generally, central grants can be either block or categorical in form. General purpose block grants (lump sum transfers) are more efficient in the sense that local governments can decide how best to spend the money. In practice however, spending may still be subject to central guidelines which effectively govern allocations. Categorical or project-specific grants are intended to be used only for specific categories of expenditure - either broadly or narrowly defined. The allocation of categorical grants can be based on a formula (such as indicators of 'need' - e.g. number of primary school children) and/or a project-by-project review of specific proposals. These may have the advantage that the center could direct funds to areas of priority for human development (assuming, of course, that the center would, and that local government would not, have done so). Funds thereby directed to priority areas may be additional, or alternatively, this may simply substitute for what would have been spent in any case (since central grants, like overseas aid, is fungible). Grants can be adjusted by matching requirements, which aim to induce a degree of local involvement and accountability for the particular expenditure programme. Grants can also be distinguished on the basis of whether they are open or closed-ended, i.e. whether the central government will finance all eligible requirements or whether an upper limit is set.
In some cases (e.g. Nigeria) the formula for revenue sharing is provided for in the constitution. More often however, it has been observed that transfers tend to be regarded by the center as a residual in their own budgeting process (Bahl and Linn 1983). Obviously the extent to which this occurs depends upon the seriousness with which local institutions are regarded by higher authorities. It may also reflect, in part, the stabilisation objectives of the national government.
In 1979, only about half of the grant entitlements of local governments in the Philippines were actually distributed.
Grants should normally, as far as possible, exhibit the features of stability, certainty and objectivity, in order to promote efficiency and allow appraisal against social, economic and political goals (Bennet 1982). However the system of intergovernmental transfers in developing countries is often closed, complex, and subject to uncertainty and political manipulation. In Brazil, for example, 26% of federal transfers to the states and local agencies are governed by "convenios" - specific agreements negotiated on a discretionary basis, in the tradition of "clientismo".
In practice, the conditions for complete financial autonomy are rarely met. Virtually everywhere, expenditure exceeds revenue at the local level (see table 9 above), which portrays the practical significance of central transfers. It is interesting to note that vertical fiscal imbalance is not confined to developing countries; indeed a recent comparative study found that central transfers account for a greater share of state and local revenue in industrial countries than in developing countries (Wasylenko 1987).
There is a wide range of experience - local own revenue as a proportion of local expenditure ranges from 100% in Mexico City (Bahl and Linn 1983), to about 15% for Zimbabwe's District Councils (Helmsing 1991). The sample of developing countries drawn from the 1990 IMF GFS shows that the degree of local financial autonomy typically fell within the 50-90% range, and averaged around 64% or more.
An alternative approach is to observe that the average share of local taxes in total revenue rarely exceeds 20% (and is often much less in many African countries); whilst the share of local in total expenditures is often higher than 30% (Prud'homme 1988) - this implies that about one-third of local expenditure will be financed from central transfers.
In a number of cases central transfers constitute a significant source of local revenue.
Total Public Resource Mobilisation
In many developing countries, increasing public expenditures on human development requires more than restructuring existing budgets. There may also need to be an increase in the public revenue and expenditure ratios (HDR 1991). Tax revenue as a percentage of GNP stands, on average, at 15.5% for developing countries, compared to 23.2% for industrial countries (HDR 1991 table 44). Similarly developing countries, on average, have smaller public expenditure ratios than industrial countries - 20%, compared to 28% (WDR 1990 Table 11). It is also noted that public sectors in industrial countries tend to be substantially more decentralised than developing countries' (as reflected in the structure of public employment; see table 10). It is therefore of interest to explore the possibility that decentralisation, through the creation of effective lower levels of government, may be a means by which the need for increased total public resource mobilisation can be met.
The following paragraphs examine the so-called visible benefits principle, which is generally the basis for optimistic predictions about the revenue raising potential of local government and the significance of voluntary contributions at the local level. (The reader should also bear in mind the discussion of local taxation and cost recovery above.) The impact of central transfers upon local tax effort is also relevant. Further it is possible that local borrowing constitutes a significant source of local resources. The mechanisms by which local resources can be mobilised raise several, often competing, considerations - including revenue raising ability, effects on economic efficiency, equity implications and administrative feasibility (Bahl 1984). Finally it is useful to seek some overall empirical indication of the impact of decentralisation upon total resource mobilisation.
The Visible Benefits Principle and Voluntary Contributions
The visible benefits principle of taxation predicts that decentralisation will elicit additional contributions, even among the poor, and from the poorer regions in developing countries. Decentralisation may lead to greater mobilisation of local resources through the willingness of consumers of public services to "share the burden" when they can actively participate in the design and operation of projects. This would seem to apply only where local residents believe that a significant proportion of taxes will be retained locally, and spent on projects and services which they value.
The visible benefits principle must be viewed in the context of taxation - principles and practice - discussed above. The reader will recall that the revenue raised at the local level is often quite limited. Perhaps the practical significance of the visible benefits principles lies in the local mobilisation of voluntarism, which taps resources for public investment which might otherwise have remained untapped. The revenue raising potential for local development can be considerable, as evidenced by the Harambee movement in Kenya and the Tesito in the Gambia. It has been argued that successful decentralisation is a crucial complement to effective self help (Schaffer, 1982). The latter "requires marketing and credit facilities, water and infrastructure and so on, which are likely to depend on the decentralised institutions of government" (ibid. p.42.)
By way of contrast, self-help is said to have been ineffective elsewhere, for a variety of reasons, due mainly to the political and bureaucratic context where official attitudes and policies discourage such activities.
Factors identified as key to the successful mobilisation of voluntarism (Khan and Miller 1989), include such elements of the local context as culture, religion, the political climate, government policies, and the availability of wealth, labour and management skills, and time.
Some are more sceptical about the scope for increased resource mobilisation via the voluntarist route. Bahl et al (1984) argued that voluntary contributions, both monetary and in-kind, rarely account for substantial amounts of revenue, and that their growth potential is limited. Moreover, 'self-help' associations may become a drain upon central government resources. They tend to focus more upon the construction of facilities, rather than the maintenance thereof - and as such the national government may be under pressure to meet recurrent costs (Hughes 1985 p.62).
Inter-governmental Transfers - Impact on Resource Mobilisation
"All assistance should be provided in ways and on terms that are positive-sum - that neither substitute for nor discourage people's contributions." - (Uphoff 1988).
As discussed above, transfers from higher to lower levels of government are often a significant source of local finances. Local resource mobilisation may either expand or contract in response to the transfer. In the former case the transfer can be termed "stimulative", whilst in the latter local governments cut back on local revenue raising, and substitute the central transfer (Bahl et al 1984). The objective of central transfers should be to allow recipient local governments to fulfil their expenditure functions, while encouraging their own fiscal efforts as far as possible and ensuring an equitable distribution of public service provision throughout the country.
According to Bird (1990), an increase in total resource mobilisation is unlikely to follow central grants in practice. Similarly, the World Bank (1988) expressed the view that local governments come to view grants as substitutes for local taxes and user charges (pp. 165-6).
There are examples of specific attempts to provide incentives for local revenue raising. The state of West Bengal enacted legislation in 1983 which requires municipal governments to increase their own revenue collections as a condition of capital assistance grants (Banjaree, 1989). (Grant formulas in the UK, Japan and some state grant programmes in the US include a reward for local tax effort: the grant is calculated as the difference between a jurisdiction's current property tax collections, and the amount it would have collected had it applied its existing rate to an 'average' tax base: Dillinger in EDI 1989.
Borrowing is a means by which additional funds may be mobilised for local governments. National governments in developing countries have increasingly allowed municipalities to borrow to finance infrastructure, especially when fees can be levied to recover costs (Rondinelli 1990). At the outset however, it should be pointed out that this may be a problematic route - given the potentially adverse results which could follow, in the loss of national monetary control and the implications for the efficacy of national macroeconomic policy. Although municipal development financial institutions (MDFIs) are not new, according to Dillinger (1989), "the merits of this approach to local government finance remain unproven".
Borrowing - from central government or intermediaries - may be undertaken in order to finance major capital investments that cannot be paid for from today's recurrent revenues. This is generally done through the creation of a MDFI, which offers a diverse portfolio of financial issues, and has greater flexibility than local governments. These specialised institutions are said to have the advantage that the risk of local government default means that they are more likely to scrutinise creditworthiness more carefully, select better projects, and enforce repayment more rigorously. Municipal credit institutions have an established record in continental Europe and Japan (Dillinger, 1989).
In developing countries, an MDFI usually begins with an initial injection of funds from a donor and a counterpart contribution, usually larger, from the central or state government. The World Bank has provided seed money to establish or stabilise a number of MDFIs. Where, as in Latin America, these financial institutions depend solely upon loans from central government to finance their lending operations, the resources mobilised would generally not enlarge the total public sector 'pie'.
Empirical evidence on total public resource mobilisation
This is a crucial, but generally neglected dimension of decentralisation in developing countries. There are a number of empirically testable hypotheses concerning how the aggregate level of revenues generated might be influenced by the structure of government, in particular, when spending and taxation decisions are made on a decentralised basis. Yet there is very little in terms of rigorous quantitative evidence. Ideally, we would want some specific studies of developing countries - both time series (before-and-after comparisons), and cross-country data (between different countries with differing degrees of decentralisation).
The most relevant strand of research to date has produced a lively debate (among some U.S. academics), over the relationship between decentralisation and government size. Brennan and Buchanan (1980) put forth the view, by analogy with the conventional theory of monopoly in the private sector, that a monolithic (i.e. centralised) government will systematically seek to maximise tax revenue. This led them to the proposition that the size of the public sector varies inversely with the extent of decentralisation. From the perspective of the above-mentioned authors, (which is obviously somewhat different than the present one), decentralisation is endorsed as a means of constraining total public resource mobilisation. Marlow (1989) explored the hypothesis that 'Total government intrusion into the economy should be smaller, cetirus paribus, the greater the extent to which taxes and expenditures are decentralised.'
According to Marlow's analysis, the degree of fiscal decentralisation affects public finance through the following avenues:
(i) Decentralisation increases competition in the public sector, leading to a relatively lower tax burden - i.e. given mobility of residents and capital in pursuit of fiscal gains, the greater the numbers of alternative tax jurisdictions, the less likely that 'excessive' taxes will be levied;
(ii) Conversely, centralisation restricts the ability of states to compete (as in (i)) since a growing national share of total government money weakens the relative significance of local governments; and
(iii) Centralisation may generate a greater reliance on inflationary finance given that only the national government is able to print money.
Unfortunately (for our purposes) Marlow's empirical analysis of government spending was limited to the USA. It covered the period 1946-1985, and used expenditure as a measure of government size (rather than taxation). He found that decentralisation affects the growth of government negatively (p.266), and that the shifting of government responsibilities from the Federal to the state and local levels will contribute to a slowing, or falling, of public sector size in the USA.
This conclusion is controversial. Oates (1985) argued that decentralisation would tend to increase total public resource mobilisation. In his empirical investigations, Oates had found in 1972, for 42 countries, regressing tax revenue (size of public sector) on a fiscal centralisation ratio (central revenue as a proportion of the total), a strong and statistically significant negative association. Controlling for income resulted in a still negative result, although it was not statistically different from zero at the usual confidence levels.
In 1985, Oates explored the question again for 43 countries (18 industrial and 25 developing). The results were that, for the entire sample, the rank correlation between the size of the public sector and the extent of centralisation is strongly and significantly negative (table 11). A relatively decentralised public sector is typically large. However this result is misleading since (as noted above), there is a dramatic difference between the average developing and industrial country. Developing countries have small, centralised public sectors, compared to industrial countries. Examination of the co-efficients for the two variables shows that there is no longer a significant relationship between them. Within each of the sub-samples, decentralisation has little relationship to the degree of decentralisation. Overall then, Oates' results lead to the null hypothesis that de/centralisation and the size of government have little to do with one another.