Fiscal Decentralization in Developing Countries

Abstract

Abstract This paper draws on the literature and growing experience with decentralization in developing countries to explore how a wide range of variables can affect decentralization efforts and how policies and incentives can be designed to improve outcomes. The paper highlights the fact that decentralization is neither good nor bad for efficiency, equity, or macroeconomic stability; but rather that its effects depend on institutionspecific design. It discusses the building blocks of fiscal federalism (expenditure and revenue assignment, intergovermental transfers, and subnational borrowing) and then discusses five means through which decentralization policy and institutions interact. These are the regulatory framework for subnational borrowing, the financing and delivery of services, information systems and competitive governments, asymmetrical decentralization, and policy synchronization. The paper's starting point is the traditional fiscal federalism approach. But the primary measures for local and central accountability assumed in most discussions of decentralization may not hold or are different in many developing countries. Drawing on the evidence from the World Bank's operational work, therefore, the paper suggests the need for a stronger focus on institutions in designing decentralization policies. This broader agenda Rethinking Decentralization in Developing Countries Abstract 3 suggests an enhanced focus on accountability, governance, and capacity in the context of designing policies for decentralization. This approach has strong implications for the Bank's project design and policy dialogue and calls for a reinvigorated research effort focused on developing countries.