The Macroeconomic Impacts of Fiscal Decentralization

Abstract

There is a potential for conflict between macroeconomic reform and decentralization. Specifically, the degree of devolution of spending and revenue-raising responsibilities has significant implications for the central government’s ability to stabilize the budget. Recent literature has identified three main sources contributing to the potential unstable central government fiscal position as a result of decentralization: principal-agent problems, resulting from the delegation of fiscal powers to lower levels of government, and “common pool” problems, associated with revenue-sharing arrangements common in decentralization programs. Both are indicative of coordination failures in intergovernmental fiscal relations (de Mello, 2000.) A third source of potential macroeconomic destabilizing effect of decentralization consists of the sequencing of its implementation.

Fiscal Reform in most LDCs has taken place within the context of more wide-ranging programmes of macrto and micro economic reforms.