The Dilemma of Fiscal Federalism: Grants and Fiscal Performance around the World

By Jonathan Rodden. 2002

746 citations recorded by the source corpus.

This paper uses cross-national data to examine the effects of federal fiscal and political institutions on the fiscal performance of subnational governments. Balanced budgets among subnational governments are found when either (1) the center imposes strong borrowing restrictions or (2) subnational governments have both wide-ranging taxing and borrowing autonomy. Large and persistent aggregate deficits occur when subnational governments are simultaneously dependent on general-purpose intergovernmental transfers and free to borrow-a combination found most frequently among constituent units in federations. Time-series cross-section analysis reveals that as countries increase their reliance on transfers over time, subnational and overall fiscal performance decline, especially when subnational governments have easy access to credit. These findings illuminate a key dilemma of fiscal federalism and a more precise notion of its dangers: When constitutionally constrained or politically fragmented central governments take on heavy co-financing obligations, they cannot credibly commit to ignore the fiscal problems of lower-level governments.

Subfields: Economics and Econometrics, Political Science and International Relations

View Paper: https://www.semanticscholar.org/paper/27934f5ef53d12a1038993ca640eca137b90a431

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Citations in the corpus

Are Fiscal Adjustments Less Successful in Decentralized Governments? (2009, positive): “On the other hand, decentralization may foster fiscal discipline if the fiscal responsibilities for each government level in a federation are clearly and transparently assigned, as Rodden (2002) and many other authors argue.”
Political Institutions and the Opinion–Policy Link (2012, background): “Recall that our measure of federalism is the ratio of state and local revenue to total government revenue from Rodden (2002, 2004).”
Racing to the Bottom or to the Top? Decentralization, Revenue Pressures, and Governance Reform in China (2017, positive): “These fiscal ‘rents’ promote opportunistic spending, and are used carelessly to boost electoral support (Rodden 2002) or invested in repressive apparatuses to keep out political opponents (Gervasoni 2010, 308-309).”
Fiscal decentralization and public sector efficiency: evidence from OECD countries (2013, background): “33 Rodden (2003) underlines the importance of panel studies in examining fiscal decentralization and argues that cross-national studies fail to capture important aspects of this issue, since they do not account for the fact that the process of decentralization unfolds overtime.”
How Should Subnational Government Borrowing Be Regulated? Some Cross-Country Empirical Evidence (2005, methodology): “This is the case in Table 3, although Rodden (2002) finds a significantly negative dependence of subnational surpluses on their lags, indicating an unexpected mean-reverting behavior.”
On the link between fiscal decentralization and public debt in OECD countries (2010, background): “This omission needs further explanation since earlier studies, such as that of Rodden (2002), point to the importance of subnational borrowing restrictions for fiscal outcomes.”
Legitimacy, Interest Group Pressures, and Change in Emergent Institutions: The Case of Foreign Investors and Host Country Governments (2005, background): “For example, a regulatory agency or subfederal entity that is not monitored or constrained by other governmental bodies is prone to corruption and overspending (Blanchard & Shleifer, 2000; de Mello, 2000; Rodden, 2002; Treisman, 2000a; Wibbels, 2000) and likely to be more susceptible to interest gro”
Fiscal decentralization, macrostability and growth (2005, methodology): “To control for these institutional factors, we employ a two-way error compo nents model in our empirical estimations.”
The Global Trend towards Devolution and its Implications (2003, background): “…de facto decentralisation of resources and the latter through the moral-hazard problem of central government effectively underwriting the expenditure of regions [for a general exposition of this commitment problem, see Rodden (2002a); for an examination of the Brazilian case, see Rodden (2002b)].”
The Economic (in)Efficiency of Devolution (2004, background): “…emphasise that it varies from country to country, and is contingent upon underlying national characteristics such as income levels (Bahl and Linn, 1992), the quality of institutions and the institutional structure (Keefer and Knack, 1995; 1997; Rodden, 2002), and country size (ThieÞen, 2003).”
MADISON IN BAGHDAD?: Decentralization and Federalism in Comparative Politics (2006, background): “The more decentralized governments rely on intergovernmental transfers, the greater the incentives for subnational politicians to engage in the kind of overspending that can threaten the overall economic health of a nation (Rodden 2002).”
Vertical fiscal imbalances and fiscal performance in advanced economies (2013, methodology): “This assumption is tested by adding an interaction term, as in Rodden (2002).”