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Challenges of Budget Management in Decentralization Budget Management and Financial Accountability Course Dana Weist Lead Public Sector Specialist, PRMPS 2 March 2004. Decentralization: A World-Wide Phenomenon. Underway in over 85 countries

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Challenges of Budget Management in DecentralizationBudget Management and Financial Accountability CourseDana WeistLead Public Sector Specialist, PRMPSdweist@worldbank.org2 March 2004

decentralization a world wide phenomenon
Decentralization: A World-Wide Phenomenon
  • Underway in over 85 countries
  • Political and economic rationales
  • Varieties
    • Deconcentration
    • Delegation
    • Devolution

Decentralization Trends

Source: International Monetary Fund. Government Finance Statistics Year Book , various years, Country Tables

differences across regions
Differences Across Regions

Subnational Share of Expenditures

Subnational Share of Revenues

Note: Simple average of most recent observations in available countries. Numbers in parenthesis indicate number of countries represented.

Source: International Monetary Fund. Government Finance Statistics Year Book 1998, Country Tables.

positive or negative outcomes
Positive or Negative Outcomes?
  • If designed well, decentralization can
    • Move decision making closer to people (subsidiarity principle)
    • Enhance efficiency and responsiveness of service delivery
    • Improve economic growth
    • Potentially alleviate poverty
  • But, design is complicated, since it spans political, fiscal, and administrative policies and institutions
key pe questions
Key PE Questions
  • Who is doing what?
  • How is it being financed?
macroeconomic stability
Macroeconomic Stability
  • Key factor is “hard budget constraint”
  • Creates incentives for subnational fiscal discipline
  • Limits risk of central government
  • Can be “softened” through several channels (intergovernmental fiscal system, financial system, SOEs, borrowing, etc.)
  • Extent of fiscal equalization
  • Ways and means for targeting poor places and poor people
four pillars of intergovernmental fiscal system
Four Pillars of Intergovernmental Fiscal System
  • Expenditures
  • Revenues
  • Intergovernmental transfers
  • Subnational borrowing/debt
expenditure issues
Expenditure Issues
  • Objective: significant and clear expenditure responsibility and autonomy
  • Subsidiarity principle: provide services at lowest level of government compatible with "benefit area" associated with those services
  • Distinction between production and provision
  • Do local services respond to local needs?
    • Do citizens have meaningful opportunities for voice?
    • Do officials face incentives to respond?
  • Assign expenditures first, then assign revenues that match expenditure needs
local revenue issues
Local Revenue Issues
  • Own resources typically inadequate to carry out assigned functions
  • Revenues not adequately responsive to changing needs
  • Striking variations in size and capacity – one size doesn’t fit all
  • Local revenue mobilization strengthens accountability -- link taxes with benefits derived from local government services
  • Simplest and most effective form of tax autonomy: discretion to set tax rates
rationales for intergovernmental transfers
Rationales for Intergovernmental Transfers
  • Vertical imbalances
  • Horizontal imbalances
  • Inter-jurisdictional spillovers (externalities)
  • Enhancing national objectives at the subnational level
  • Paying for national programs implemented by subnational governments
a good transfer system
A “Good” Transfer System
  • Transfers should be transparent and predictable (formula-based)
  • Equalization transfers should include
    • A measure of “need”
    • A measure of “capacity”
    • Adequate sub-national revenue autonomy
    • Stable but flexible financing
  • Avoid a proliferation of conditional grants
local borrowing
Local Borrowing
  • Benefits
    • Finance long-lived assets efficiently and equitably
      • Overcome liquidity problems of lumpy investments
      • “Pay-as-you-use” financing
    • Improve selection of investments
  • Risks
    • “Soft” budget constraint
    • Macro-instability
borrowing risks can be managed
Borrowing Risks Can Be Managed
  • Strengthen intergovernmental fiscal system
  • Apply administrative controls
  • Implement rule-based framework
  • Establish market-based system
  • Impose other controls
decentralization challenges
Decentralization Challenges
  • Balance responsibilities with resources, capacity and accountability
    • Subsidiarity
    • Finance follows function
    • Responsibility with capacity (learn by doing)
    • Accountability through political channels, own source revenues, participation and transparency
  • Create incentives for implementation to match formal arrangements
operational implications of decentralization
Operational Implications of Decentralization
  • Many more potential clients
  • Weaker client capacity
    • Limited knowledge of Bank processes and requirements
    • Weak capacity in project preparation and procurement
  • Local accountability may be weak and potential for local corruption may be high
  • Shorter time frame for local officials
  • Need for
    • Improved data
    • Streamlined Bank processes?
    • Experimentation and new solutions?
public expenditure management lens
Public Expenditure Management Lens
  • Clarity in expenditure assignment?
  • Adequacy of resources?
  • Formula-based transfer system?
  • Hard budget constraint?
  • Budgeting and reporting systems
    • Uniformity vs. flexibility
    • Carrots vs. sticks