Intergovernmental transfers and decentralized public spending Prof. Dr. C.G.M. Sterks

Overview Grant definition Aim of the paper Short comment Analysis statistical data / types of grants Analysis of basic principles of grant design Indicate how to deal with implementation problems Short comment

Grant definition Transfer from central government to a sub- national government

Statistical data / types of grants (1) Empirical significance 1985-2000 increased dependence on grants Unwillingness to increase sub-national tax base Correction of horizontal imbalances Financial incentives for sub-national spending Types of grants Useful overview Figure 3 Choices made Great deal of variation

Basis principles of grant design Objectives of grants Financing grants as an alternative to enlarge sub-national tax base Subsidization grants to compensate for spillover effects Equalization grants to provide average package of services at same tax effort

Financing grants (1) Aims Distribution formulas To enable sub-national jurisdictions to finance a basis package of services To provide resources needed to supply programmes imposed by central government or to reach imposed minimum standards Distribution formulas Preferably simple formulas based on normative costs

Financing grants (2) Related issues Need to collect performance information Need to cope with volatility problems to increase predictability for planning purposes Need to avoid pro-cyclical effects

Subsidizing grants Earmarked matching grants Stimulation of local or regional cooperation

Equalization grants Equalization of tax capacity To compensate for relatively small tax bases Needs calculation of tax capacity Full compensation to be avoided (incentive effects) Equalization of service capacity To compensate for relatively high costs Needs calculation of service costs indicators Equalization can be achieved via horizontal grants and via corrections upon financing grants

Implementation problems Use insights from public choice theory, principal agent theory and economics of information Constrain volatility by linking to trend estimates Limit room for strategic behavior Take institutional, historical and cultural circumstances into account

Short comment Use of same grant for various purposes is seen as an important cause of inefficiency (see page 4) No clear solution is presented for that problem General purpose grants can at the same time be based on financing, equalization and subsidization purposes.