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LOCAL PUBLIC GOODS AND PUBLIC GOODS DECENTRALIZATION

June 28, 2012

By: La Ode Sabaruddin

Introduction

It has been long recognized that there are three fundamental problems associated with the provision of public goods, namely (1) The revelation problem (free-rider problem); (2) The social choice problem (Arrow Impossibility Theorem); and (3) The management of the public goods ( see, Samuelson, 1954; Stiglitz, 1982). In response to the problems, some scholars such as Tiebout (1956), Oates (1972) promote “local public goods”, by argued that at least for those public goods which were supplied locally, if individuals were mobile among communities, all three problems could be resolved: by their choice of communities, they reveal their preference (vote with their feet). By localized or decentralized provision of public goods, it is assumed, local governments can more easily identify people’s needs, and thus supply the appropriate form and level of public goods (Rondinelli  et al., 1984; Enemuo, 2000; Oates, 2006; Enikolopov & Zhuraskaya, 2007; Weingast, 2009; Balaguer-Coll et al. 2010). Some empirical studies support this view such as Estache and Sinha (1995), Huther and Shah (1998), Santos (1998), King and Ozler (1998), Alderman (1998), Isham and Kahkonen (1999), Galasso and Ravallion (2001), Habibi et al (2001), Faguet (2001), Eskeland and Filmer (2002), Bardhan and Mookherjee (2006). Thus, it is not surprisingly, decentralization has become an important theme of governance in many developing countries in recent years (see Boadway and Shah, 2009; White, 2011). Even, decentralization has become a global trend.

By contrast, some scholars argue decentralization may become inferior to centralization both theoretical or empirical (Dreher, 2006; Treisman, 2007; Feidler and Staal, 2008). This is because decentralization may become as a source of new problems such as dysfunctional public sector, lack of voice and exit, capture by local elite, aggravation of macroeconomic management due to lack of fiscal discipline, and perverse fiscal behavior by sub-national units. Some studies find that decentralization tends to breed corruption and poorer public goods provision (Shleifer and Vishny, 1993; Prud’homme, 1995, Tanzi 1995, West and Wong, 1995; Ravallion, 1998; Azfar and Livingston, 2002). In conclusion, the opponents of decentralization argue that socially optimal public goods provision takes place under centralization.

Several studies observed mixed or inconclusive impacts of decentralization. Decentralization perceived both as a solution to problems, while local governments promote better public goods provision, it may be abolished by weak accountability (Winkler and Rounds, 1996; Azfar, et al, 2000; Khaleghian 2003; Enikolopov & Zhuraskaya, 2007; Shah & Ivanyna, 2010; DCLG Publication, 2011). Besley and Coate (2003) concluded that the relative performance of centralized and decentralized systems depends upon spillovers and differences in tastes for public spending. Feidler and Staal (2008) models the trade-off between centralized and decentralized decision making over the local public good decisions in a legislature of locally representatives, it shows that there’s a conflict of interest between citizens in different jurisdictions. Even, the legislature can be self-interested or benevolent that results either efficient, excessive, or misallocative provision of public goods. Overall, the relatively advantages of centralization and decentralization of local public goods provision is still remain questionable in the literature.

This paper will address the above issues through a selective review of the literature. The paper is organized as follows. Section 2 presents a brief review of local public goods concepts and theoretical debate of decentralized versus centralized provision of local public goods. Section 3 discusses the argued impacts of decentralization on public goods provision, and reviews the existing empirical evidence. Factors that are likely to influence the performance of decentralized provision of local public goods are studied in Section 4, and Section 5 presents the conclusion of the paper.  

Local Public Goods Provision: Decentralization versus Centralization

Simply, local public goods can be defined as public goods that are produced and consumed in a limited geographical area, people living nearby may or may not be excludable, whereas people living farther away may be excluded. In other words, local public goods are public goods that can be enjoyed only by residents in the local community (Hocman, 1981). The broader concept is introduced by Lehavi (2004) that defined local public goods in two different axes. The first axis is the functional characteristics which is defined local public goods as public goods whose effects involve a relatively limited geographical area. The second axis concerns the identity of the provider of the local public goods, ranging from public providers such as governmental bodies or public utilities at one pole, private providers such as firms or member-owned private clubs at the other pole, and hybrid forms of “public-private” providers located in-between.

Local public goods may take form as a pure public goods or impure public goods. A pure local public goods should satisfy the following three conditions:

–          Once the public good is provided, the additional cost of another person consuming the good is zero (consumption is non rival).

–          To prevent anyone from consuming the good is impossible (consumption is non excludable)

–          Households that live outside a well-defined geographical area do not benefit from the provision of the public goods (in certain cases, possibly with spillovers to neighboring communities), e.g. local TV broadcasts, sea defense etc.

Meanwhile, impure local public goods exhibit some degree of rivalry and excludable in consumption (Lehavi, 2004). Hochman (1981) define impure local public goods as a combination of a pure public goods with an external  effect, that is can classified into two categories: congestable local public goods, which is local public goods subject to external effect of congestion; and pollutable local public goods, which is local public goods subject to external effect of pollution.

In contemporary governmental structures, the geographical dimension of the effect of local public goods roughly translates into the jurisdictions of local governments, cities, towns, etc. However, a perfect match between political borders and the effect span of the local public goods is quite rare, so that the provision of such goods usually involves some degree of jurisdictional spillover effects. Refer to spillover effects, Lehavi (2004) classifies local public goods as discrete local public goods, that is local public goods whose general effects outside their geographically proximate areas are relatively modest, and network based local public goods, that is whose effects typically run beyond the local government’s jurisdiction. Since, spillover effects always exist in the provision of local public goods, it has been long debated in the literature whether decentralized provision of public goods gives more advantages than centralized provision subject to efficient allocation of resources, socio-egalitarian arguments, and the institutional characteristics of each local area.

The discourse concerning the positive and negative effects of decentralization has been developed in a multidisciplinary way, according to different analytical frameworks which seek to highlight that decentralization provides benefits and costs for the efficient provision of public goods (DCLG Publications, 2011). The advocates of localized or decentralized provision of public goods argue that decentralizing the delivery and in some cases the financing of local public goods improves the allocation of resources, cost recovery, accountability, and reduces corruption in goods delivery (Tiebout, 1956; Oates, 1972; ; Rondinelli  et al., 1989; Enemuo, 2000; Enikolopov & Zhuraskaya, 2007; Weingast, 2009; Shah & Ivanyna, 2010; Balaguer-Coll et al., 2010). Some empirical studies highlighted that decentralization had positive impact on social assistance (Alderman, 1998), poverty alleviation (Bardhan and Mookherjee 2003; Galasso and Ravallion, 2001), improve delivery of education and health services and reducing intra-regional disparities (Habibi et al, 2001; Eskeland and Filmer, 2002), improve consistency of public services with local preferences and quality and access of social services (Faguet, 2001), improved allocation for pro-poor local services (Rosenzweig, 2001), increased spending on public infrastructure (Estache and Sinha, 1995), and improved delivery of public goods provision (Huther and Shah, 1996; Enikolopov and Zhuravskaya, 2003). In conclusion, they argue that decentralization is desirable from a social welfare perspective whether the spillover effects are not taken into account or when there are spillovers.

Some scholars have different view about the advantages local provision of public goods such as Sharma (2006) and Feidler and Staal (2008). They argue that socially optimal public goods provision takes place under centralization. In their study, Azfar and Livingston (2002) did not find any positive impacts of decentralization on efficiency and equity of local public service provision in Uganda. It’s also confirmed by Ravallion (1998) in Argentina and West & Wong (1995) in China. White (2011) notes that what is important to consider when looking at expected outcomes of decentralization is that they are highly sensitive to distortion. Besley and Coate (2003) showed how centralized provision of public goods does not always create uniformity of public goods for all communities. Besley and Coate argue that citizens choose representatives in legislatures that make decisions on public good provision. The representatives maximize their own surplus which implies the representatives can provide different levels of public goods to each district under centralized decision making. Since centralization can provide different level and form of local public goods, centralization may become superior to decentralization due to higher capacity of central government than local government. It is often argued that decentralization is unlikely to produce desired results. Capacity refers to the ability, competency, and efficiency of local governments to plan, implement, manage, and evaluate policies, strategies, or programs designed to impact on social conditions in the jurisdiction (Azfar, 1999). However, centralized provision may lead to misallocation and uncertainty in public good provision, since centralized decisions are assumed to be made by a minimum winning coalition of representatives in the legislature. The citizens are uncertain whether their representatives will be in this coalition, while the representatives in the coalition make decisions based on their own preferences, preferences in the other districts. Bloch and Zenginobuz (2012) show an increase in household mobility favors centralization, as it increases competition between jurisdictions in the decentralized regime and accelerates migration to the majority jurisdiction in the centralized regime. Hence, decentralized provision only dominates centralized provision for low values of spillover and mobility.

Several studies have inconclusive impact on decentralized provision of public goods, since it is hamstrung by procedural, financing and governance constraints. Khaleghian (2003) using data for 140 countries found that while decentralization improved the coverage of immunization in low income countries, opposite results were obtained for middle income countries. Winkler and Rounds (1996) reviewed Chile’s experience with education decentralization and concluded that it resulted in improvement in efficiency of provision but also experienced decline in score on cognitive tests. Eggleston (2009) argues that while decentralization lower corruption and eventually increases provision of public goods, but overall impact may be disappeared as the weak accountability exists.

Although theoretical arguments highlight that decentralization represents both a resource and a threat for local government and for the economic performance of the system as a whole, the discourse on its positive effects has generated a global trend towards greater decentralization in order to achieve greater growth and efficiency (Rodríguez-Pose and Ezcurra, 2010). Some review of the advantages and disadvantages of decentralization may find in some paper such as Inman and Rubinfeld (1997), Oates (1999, 2006). Therefore, the rest of this paper are written underlying the argument of positive effect of public goods decentralization, though in certain cases still highlight the disadvantages of decentralization. 

Argued Positive Impacts of Decentralization on Public Goods Provision

Decentralization of public goods provision is argued to improve governance in public goods provision in at least three ways: (1) Improving the efficiency of resource allocation, (2) Promoting accountability and reducing corruption within government, (3) Improving cost recovery.

The theoretical argument for decentralization is that it improves the efficiency of resource allocation based on some reasons: (1) Firstly, sub national governments are closer to the people than the central government, they are considered to have better information about the preferences of local populations than the central government (Musgrave, 1959; Oates, 1972; Tomaney et al., 2009).  Hence, they are argued to be better informed to respond to the variations in demands for public goods, (2) Secondly, sub national governments are also considered to be most responsive to the variations in demands for and costs of providing public goods. Decentralization increases the likelihood that governments respond to the demand of the local population by promoting competition among sub national governments (Tiebout, 1956; Rodríguez-Pose and Tijmstra, 2009), (3) Competition among sub national governments allows for a variety of bundles of local public goods to be produced, and individuals reveal their preferences for those goods by moving to those jurisdictions that satisfy their tastes–that is, by “voting with their feet” (Litvack et al, 1998). It pressures sub national governments to pay attention to the preferences of their constituents and tailor the goods delivery accordingly, whilst risking the loss of tax revenues (Oates 1968, 1972, 1999, 2006; Salmon 1987; Breton 1996; Qian and Weingast, 1997).

Decentralization promotes accountability and reduces corruption in the government (Rose-Ackerman, 1978; Shleifer & Vishny, 1993; Ostrom, Schroeder, and Wynne 1993; Martinez-Vazquez & McNab, 2003; Arikan 2004; Weingast, 2009; Shah & Ivanyna, 2010).  This argument based on the fact that since sub national governments are closer to the people, citizens are considered to be more aware of sub national governments’ actions than they are of actions of the central government.  Also, the resulting competition between sub-national providers of public goods is seen to impose discipline on sub national governments, as citizens averse to corruption may exit to alternative jurisdiction or providers. However,     a number of studies claimed that corruption increases with localization both theoretical and empirical. Vito Tanzi (1995) argued that localization brings officials in close contact with citizens. This promotes personalism and reduces professionalism and arms length relationships. Personalism in his view breeds corruption as officials pay greater attention to individual citizen needs and disregard public interest. Further, higher degree of discretion at the local level and long tenure of local officials making it easier to establish unethical relationships (Prud’homme 1995). This condition is also supported by lower monitoring and control, interest group capture, overgrazing, and lack of fiscal and political discipline (Prud’homme, 1995; Treisman, 2002; Bardhan and Mookherjee, 2006).

Making goods more demand responsive through decentralization is argued to have the added benefit that it increases households’ willingness to pay for goods (Briscoe and Garn 1995, Litvack and Seddon, 1999).  Households are argued to be more willing to pay for and maintain goods that match their demand. Moreover, a relatively close match between supply and local demand, if coupled with transparency and with local cost-sharing or cost recovery, can provide the incentives and information base for effective local monitoring.  The latter is a necessary ingredient in an overall anti-corruption strategy, and in particular helps to shrink the information asymmetries and leakages that can undercut both allocative efficiency and cost recovery.

The empirical evidence on the impact of decentralized public goods provision on the efficiency of resource allocation, accountability and corruption, and cost recovery is surprisingly inconclusive as explained in the first part of this paper. This controversy and debate may relate to the fact that decentralization of public goods provision involves multitude of factors. Efforts to address public goods decentralization that fails to adequately account for these underlying “factors” are unlikely to generate profound and sustainable results.

Factors Influencing the Performance of Public Goods Decentralization

There are some factors may influence the performance of public goods decentralization which includes political aspects, fiscal dimension of decentralization, transparency of government actions, citizen participation in public goods provision, civil society and social structure, and capacity of local governments. This section will review how these factors influence the effect of decentralization on resource allocation, accountability, and cost-recovery. The explanation of this section is mainly refer to Azfar, et al (1999) and Oates (2006).

Decentralization is thought to bring government closer to the people by way of introducing or strengthening the electoral process at sub national levels, the formation of councils and citizens committees, and direct participation of the users of goods and beneficiaries of public goods provision. Even where not locally elected, sub-national government is thought to have greater knowledge of local preferences, so decentralization may encourage allocative efficiency. An efficient division of responsibilities among different levels of government requires, however, that the role of each level of government must match its capability, and a set of rules defining who has authority and who will be held accountable. These rules should be explicit and transparent. Fundamental rules are most often spelled out in the constitution, leading to laws and regulations covering specific implementation of the fiscal system and public goods provision. Some important factors of political aspects in public goods decentralization are constitution and legal framework, political and electoral systems, government system, size of government, and the role of the central government. Constitution and legal framework play as a guideline on how decentralization has to operate which eventually ensure the credibility, accountability and transparency of institutional structures. Political and electoral systems affect the quality of governance in a decentralized setting and give different result for example autocracy versus a democracy, presidential or parliamentary systems, single-seat systems or proportional representation, etc. It is also the same case with the  government system’s choice whether unitary or federal government. Size of government is also play important role due to large political units and big government tend to pose governance challenges and corruption risks everywhere. Lastly, the role of central government may take a great attention as it plays a major role in defining incentives in the system, hence in determining governance outcomes. Overall, the most critical aspect on political aspects is accountability of government. Since the basic advantage of decentralization is that it induces the government to respond to the wishes of the local population, it follows that giving authority to local governments that are not responsible to their local populations may not improve outcomes.

Another important dimension in assessing the extent and efficiency of decentralization is how the authority to tax and spend is distributed between the central and local government. This raises a complicated set of issues, because there are several different kinds of taxes and many more kinds of expenditures, and there are many different ways in which jurisdictions can be defined, and tax expenditure assignments divided among jurisdictions. Some important factors have to be considered are welfare analysis of fiscal decentralization, political and jurisdictional aspects of fiscal decentralization, and incentive effects of fiscal decentralization. Welfare analysis of fiscal decentralization related to the problem of overlapping tax bases, that is tax rate set by each layer of government creates  “vertical externalities” by reducing the tax base of the other layer. This competition between the two layers may lead to tax rates that are too high. Political and jurisdictional aspects of fiscal decentralization relate to whether the devolution of tax and expenditure responsibilities to sub national governments is accompanied by greater political self-determination at the sub national level. Incentive effects of fiscal decentralization relate to the potential for soft budgets and moral hazard created by transfer systems that do not make revenue-matching or other conditions part of their formulas.

Access to information on the actions and performance of government is critical for the promotion of government accountability. It requires the public knows what goods and services are provided by the government, how well they are provided, who the beneficiaries are, and how much they cost. Also, the central government needs to be able to monitor the performance of sub national governments, and there are good reasons for the latter to be fully informed about the actions of the central government. Some important factors have to be considered are fiscal and administrative transparency and the role of the media. Fiscal and administrative transparency related to the monitoring of budgets and expenditures, as well as it outputs and outcomes. This may become a serious problem in many decentralizing countries due to weak or inadequate mechanisms for citizens to monitor actions of sub national governments. In some cases, it’s helped by the role of media which induces transparency and accountability of government by disseminating information about government actions.

Citizen participation in public goods provision facilitates information flows between the government and local population and thereby reduces asymmetric information.  It provides means for demand revelation and helps the government to match the allocation of resources to user preferences. Citizen participation in public goods provision also can promote government accountability by increasing citizens’ awareness of actions and control over sub national governments. Some important factors that may enhance the successful of public goods decentralization in terms of accountability are mechanisms (voice and exit) and access toward the government. The extent of voice users have about service delivery depends on decision-making processes that citizens are allowed to use. Participation through these mechanisms can take many forms such as voicing demand and perceived problems with delivery, making choices, or being involved in projects and service management. When voice mechanisms either do not exist or have proven ineffective and the service provided is unsatisfactory, citizens have in principle the option to “exit”—that is, to stop using the service. 

The extent and impact of citizen participation on public goods provision depend partly on the effectiveness of civil society and on certain aspects of the social structure. Civil society encompasses non-governmental and non-profit organizations such as civic groups and associations, cooperatives, and user groups. Aspects of the social structure that matters include the extent of social and economic heterogeneity of the population, trust among different groups of people, and cultural norms and traditions that affect relations among people and cohesiveness of the society.

Lastly, sub national governments may have the political authority and access to financial resources, but unless they have the capacity to do the work, decentralization is unlikely to produce desired results.  Inadequate capacity is often used as a counterargument in proposals for decentralization. Capacity refers to the ability, competency, and efficiency of sub national governments to plan, implement, manage, and evaluate policies, strategies, or programs designed to impact on social conditions in the jurisdiction (Azfar,1999). Following Fiszbein (1997), three key factors influence government capacity are human capital, physical capital, and incentive structures within government. There are also some factors may influence the public goods decentralization such as the quality of labor and land markets.

Conclusion

Decentralizing of public goods provision is not a panacea.  It has its advantages and disadvantages.  The overall impact of decentralization on public goods delivery depends critically on its design and prevailing institutional arrangements. In addition, decentralizing of public goods provision in developing countries may not have the same results as in developed countries.

 

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