ASIA-PACIFIC AND LATIN AMERICAN INTERREGIONAL
FORUM ON MANAGING FOR RESULTS
DECENTRALIZATION AND THE CHANGING ROLE OF
CENTRAL FINANCE AGENCIES
DESIGN AND MANAGEMENT
OF DECENTRALIZED AND
INTERGOVERNMENTAL
REVENUES
PA U L S M O K E
NEW YORK UNIVERSITY
MANILA
28-29 NOVEMBER 2012
Key Questions
 Why is it important for subnational governments
to have adequate revenues?
 What is the right balance between own-source
revenues and intergovernmental transfers?
 Why has it been such a great challenge for
subnational governments in many countries to
get the resources they need?
 What is known about how to best design and
manage subnational revenues and transfers?
 How can progress be made in improving on the
current situation?
I. Role of Subnational Revenues in the
Intergovernmental Fiscal System
 Generate funds for provision of local public
services (including debt service)
 Reduce local government demands on central
government budgets
 Create a fiscal linkage between benefits received
from local services and the costs of provision
 Develop accountability between elected local
councils and their constituents
 May promote service delivery: jurisdictions with
greater reliance on own revenues may spend more
on services relative to administration
II. Overview: Principles and Practice
of Subnational Revenue Generation
 Promote subnational revenues based on the
benefit principle and levied on immobile bases
 Limit competition with the center and other
subnational governments
 Provide subnational governments access to
revenues they have some control over
 Minimize costs of administration/collection
The central government has inherent advantages in
revenue generation and subnational governments can
normally manage more functions than they can finance
locally: tax sharing/transfers are generally inevitable
Sources of Subnational Revenue in
Developing Countries
 Common: Property based taxes, various business
related revenues, user charges, etc.
 Less common/alternative: motor vehicle
revenues, natural resource revenues, subnational
indirect taxation/VAT
 Unusual/problematic but highly productive
sources that are are often hard to eliminate:
octroi in South Asia and other regions, Regional
Services Council Levy in South Africa, Graduated
Personal Tax in East African countries, etc.
Subnational Revenue Options
Choice Choice Administrative Flows
of Base of Rate Responsibility Based on
Own
Source
Local
Local
Local
Local Tax
Base
Centrally
Assisted
Local
Local
Local/Center
Local Tax
Base
Surcharge Center
Local
Center
Local Tax
Base
Tax
Sharing
Center
Center
Center
Local Base
or Formula
Grant
Center
Center
Center
Ad Hoc or
Formula
Characteristics and Issues
Characteristics
Potential Issues
Own
Source
Local control of base,
rate and administration
Duplicate admin, possible
distortions, no equalization
Centrally
Assisted
Local control of base and Possible distortions and no
rate; lower admin costs
equalization
Surcharge Local control of rate;
uniform base and
administration
No local control of base,
possible distortions and no
equalization
Tax
Sharing
Uniform rate, base and
administration
No local control of base and
rate; no equalization unless
formula distribution
Grant
Uniform rate, base and
administration;
equalization option
No local control of base and
rate
Common Problems/Challenges with
Subnational Revenue Generation
 Central tendency to keep productive sources
and heavily control subnational sources
 Insufficient reliable information for policy
development and administration
 Tendency for use of too many unproductive
sources, excessive complexity and pursuit of too
many non-revenue policy goals
 Use of off-budget or “unofficial” revenues
 Political interference and capacity issues
 Lack of citizen trust in local governments, leading
to inadequate willingness to pay local taxes
Common Subnational
Revenue Reforms
 Promote a focus on revenue raising rather than
other policy objectives
 Ensure sufficient autonomy over local sources
 Focus on improved use of a limited number of
productive sources (eliminate the unproductive)
 Replace problematic/unofficial sources
 Improve information on tax bases and simplify
tax structure and administration
 Improve administration/collection and use
higher level administration where appropriate
 Create better linkages between public services
and local revenues
III. Political Economy Factors in
Subnational Revenue Generation
 National
 National politics may promote or undermine fiscal
decentralization and revenue assignment
 Even with strong decentralizing laws and policies, often
limits on local autonomy
 Such problems result from weak political support or
national level bureaucratic behavior
 Subnational
 Elections are a blunt accountability instrument
 Elite capture and corruption are not uncommon
 Other accountability mechanisms can promote public
awareness of revenue definition/use and reduce political
obstacles: public consultations, information dissemination,
participatory planning/budgeting, social auditing, etc.
Enhancing Citizen
Engagement/Compliance
 Accountability mechanisms can just be as
“technical” as any fiscal mechanism: pro-forma
and token exercises are common
 Effectiveness requires awareness, interest and
capacity among local citizens: Do people know
about available mechanisms? Do they understand
them? Can they access them?
 Tax compliance is positively related to: ability to
pay, perceived probability of prosecution; perceived
fairness; and negatively related to: dissatisfaction
with public services, excessive taxpayer harassment,
general mistrust of local government
Managing Technocratic Reforms
 Commonly recommended revenue
administration reforms can be offset by
unanticipated behavioral adjustments, e.g.
 Dedicated revenue bodies and anticorruption efforts can be be undermined by
social and political allegiances that are
stronger than allegiance to the civil service
 Privatization of collection can increase local
revenues but substantial leakages may
persist—e.g., shifting from the point of collection
to the point of submission to local governments
IV. Intergovernmental Transfers:
Common Objectives
 Improve general revenue adequacy
(due to limited/inelastic local tax bases)
 Alleviate vertical fiscal gaps: matching
revenues to expenditure requirements
 Promote horizontal equalization
among jurisdictions (presumed impact
on equity and development)
 Reduce interjurisdictional spillovers;
promote spending on priority services
Common Types and Structures
 General purpose/unconditional: raises
budget constraint
 Conditional/specific: target amount may
have to be spent; can go beyond with own
resources
 Matching/price subsidy: variation of
conditional that requires local contribution
 Project grant: usually on an application
basis for capital projects, often from a
special fund or account
Determining the Transfer Pool/
Methods of Allocation
 Pool
 Specific share of granting government general revenue
or revenues from a particular tax or taxes
 Ad hoc decision from general revenue (annual basis)
 Subnational spending plans (for certain
functions/programs)
 Allocation
 Origin of revenue collection (derivation)
 Formula: based on need (population/more sophisticated
measures), capacity (per capita income, tax effort, etc.)
 Cost reimbursement after expenses incurred
 Ad hoc decisions
Common Issues in Transfer Design
and Implementation
 Balancing macro-economic control and sub-
national stability and autonomy
 Balancing multiple objectives of transfers
 Measuring key variables: expenditure needs,
fiscal capacity, etc.
 Fragmentation/weak coordination of transfers
 Complexity in scope and administration
 Subjectivity/lack of transparency in allocation
 Weak linkages to own revenues, borrowing
incentives, and intergovernmental fiscal reforms
 Inadequate monitoring/impact of performance
Intergovernmental Transfer Reform
 Regularize the transfer system to ensure a (rule-
based) minimum of subnational resources and an
appropriate unconditional/conditional balance
 Simplify and coordinate complex and
fragmented programs as needed
 Increase transparency and improve data used
in allocation process
 Expand and improve the use of equalization
transfers
 Better target conditional transfers but allow
reasonable subnational discretion
Transfer Reform (continued)
 Improve linkages between transfers and other
components of the intergovernmental fiscal
system: transfers should not undermine revenue
generation and borrowing incentives
 Use intergovernmental transfers as appropriate to
promote broader policy and sub-national
government reform objectives (recent wave of
compliance and performance grants)
 Improve monitoring of the performance of
intergovernmental transfer programs relative to
stated objectives
Central and Subnational Government
Objectives for Local Revenues
 Central Government
 Adequately
control
local finances
 Equalize fiscal
capacity among
jurisdictions
 Stimulate tax effort
 Promote priority
functions/services
 Minimize
administrative costs
 SN Governments
 Guarantee
local
autonomy
 Increase efficiency
of local revenue flow
 Adequate budget to
cover service costs
 Ensure local political
acceptability
 Minimize
administrative costs
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FLG L6 Revenue and Expenditure Assignments