What Drives Fiscal Decentralisation? Further Assessing the Role of Income*

Abstract

This paper investigates the determinants of fiscal decentralisation, focusing in particular on the impact of the level of income on the level of fiscal decentralisation. Various measures of fiscal decentralisation, several of them novel in this context, are employed in a cross‐country econometric model to test established and more recent hypotheses. Paying careful attention to variable measurement, model specification and sample coverage, the results suggest that there are significant relationships between fiscal decentralisation and income, as well as a range of other factors. However, these relationships may be more complicated than previously reported. For the entire large sample of countries, and for the OECD subsample, a positive relationship between income and decentralisation is found. This corroborates the results found in earlier studies. However, for the middle‐ and lower‐income nations, higher income is found to be associated with less decentralisation.

Determinants of Expenditure Decentralization: Evidence from China

“…Though China is a constitutionally unitary country, fiscal decentralization at sub-provincial levels varies tremendously across provinces, especially on the expenditure side. While there is a growing literature on the factors that explain the extent of fiscal decentralization, we still know little about what drives fiscal decentralization in different places (Bodman & Hodge, 2010). Taking advantage of the substantial variation in sub-provincial expenditure decentralization in China, this study contributes to this body of literature by testing hypotheses concerning some potential determinants of fiscal decentralization reported in the literature.…”

“…Early studies on this issue find that per capita income of a given country is significantly and positively related to fiscal decentralization (Kee, 1977;Panizza, 1999). Recent research has found some new evidence on the different effects of economic development in developed and developing economies (Bodman & Hodge, 2010;Letelier S., 2005), namely a positive relationship in high-income countries and a negative one in low-income countries.…”

“…Litvack and Oates (1971) suggest that social congestion will increase when population size grows. Provided that local governments offer the majority of public services to citizens, the rising cost of 11 congestion will increase the share of local expenditure in total government spending (Bodman & Hodge, 2010). A higher population density is also likely to be associated with lower cost of public services due to increasing returns to scale in the provision of public services.…”

“…Cross-national evidence, however, suggests that a greater amount of fiscal transfers tend to encourage more local expenditure as soft budget constraints arise (Bodman & Hodge, 2010;Letelier S., 2005). 2 Higher transfer dependency thus is associated with 9 greater fiscal decentralization.…”

“…The bulk of the literature in recent decades has investigated the impact of fiscal decentralization on public governance (Prud'homme, 1995;Rodden & Wibbels, 2002;Uchimura & Jütting, 2009). The drivers of decentralization have been largely overlooked, except for some recent efforts such as Bodman and Hodge (2010) and Panizza (1999). Compared with studies on the impacts of fiscal decentralization, untangling factors underpinning fiscal decentralization will be instrumental in generating a better understanding of the complexity and dynamics of decentralization in different politico-economic backgrounds.…”