Intergovernmental Transfers:
Theory and Practice
Roy Bahl
Dean, and Professor of Economics
Georgia State University
(rbahl@gsu.edu)
Decentralization and Intergovernmental
Fiscal Reform
Sponsored by the Decentralization Thematic Group,
PRMPS and WBI
Washington, DC
29-31 March 2004
Basic Approaches to
Decentralization

Revenue-Sharing Model (Weak Decentralization)
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Grants
Shared Taxes
“Minor” Local Taxes
Revenue Assignment Model (Strong Decentralization)
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Grants
Shared Taxes
Significant Local Taxes (Autonomy)
Loans
User Charges
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Rules
8.Grants and shared taxes must play an
important role in almost any
decentralized fiscal system in a
developing or transition country.
Transfers may be designed as more
centralized or more decentralized.
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Justifications for
Intergovernmental Transfers
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Close the “fiscal gap”
Equalize fiscal capacity and need
Adjust for spillovers
Increase effectiveness of central
expenditures
Political reasons
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Closing the Fiscal Gap
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Cause of “Fiscal Gap”
Assigned more expenditures
to local governments than
revenues or too few
revenues
Local governments have
“gone crazy” and are
spending beyond their
means
Local governments are not
making use of the revenue
sources available to them
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Means to Close the Gap
Change the revenue or
expenditure mix among
levels of government
Introduce controls or
restraints on local
governments
Enhance local fiscal effort
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Equalizing Fiscal Capacity
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Equalize the position of governments,
not people
Allocate unconditional grants: give
funds to government and let them
spend as they choose
Allocate conditional transfers: allocate
funds for specified purpose
Avoid “gap filling”
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Adjusting for Spillovers
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Importance of spillovers
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Alternatives to transfers
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Getting public sector “prices” right
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Varying price with capacity
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What is an
Intergovernmental Transfer?
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Grants

Shared Taxes
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How Can Intergovernmental
Transfers be Decentralizing

Revenue adequacy

Certainty
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Unconditional
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How Can Intergovernmental
Transfers be Centralizing

No transparency in vertical sharing
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Ad hoc distributions
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Uncertainty and year-to-year changes
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Strict Conditions
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How Should The Grant System
Be Structured?
Alternative Form of Intergovernmental Grant Programs
Method of determining the total divisible pool
Method of allocating
The divisible pool
Among eligible units
Specified share of
National or state
Government tax
Ad Hoc
Decision
Reimbursement
Approved
Expenditures
Origin of collection to tax
A
NA
NA
Formula
B
F
NA
Total or partial
reimbursement of costs
C
G
K
Ad Hoc
D
H
NA
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Appropriateness of Various
Types of Grants
Objective of National Government
• Maintain control over local finances
• Stimulate expenditures for a particular
function/overall tax effort
• Equalize services and fiscal capabilities
among localities
• Increase local tax effort
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Appropriateness of Various
Types of Grants
Objective of Local Government
• Maintain control over local finances
• Plan efficient budget
• Increase adequacy of local revenues
Joint Objective
• Minimize administrative costs
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Natural Resource Revenue Sharing:
The Case for More Centralization
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The Stability Argument
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The Disparities Argument
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The Local Capacity Argument
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The National Treasure Argument
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Natural Resource Revenue Sharing:
The Case for More Decentralization
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The Cost Reimbursement Argument
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The Heritage Argument
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The Conflict Resolution Argument
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Revenue Sharing in
Transition Countries
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Very Centralized
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Piggybacking
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Backdoor Approaches
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Intergovernmental Grants:
How Not To Do It!
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Deficit Grants
Complicated Formulae
No Transparency
No Continuity
Base It On The Amount Spent
No Evaluation
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Intergovernmental
Grant Lessons
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Desired outcomes should drive design
One grant/transfer instrument cannot
accomplish multiple objectives.
Expect changes in formula over time
Is “distributable pool” a discretionary
element in the central budget or an
entitlement of local government?
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