APSA-CP Newsletter of the Organized Section in Comparative Politics of the American Political Science Association

Volume 11, Issue 1 Winter 2000 Letter from the President

Table of Contents American Imperialism in Comparative Politics

Letter from the President 1 Michael Wallerstein Symposium Northwestern University The New Political Economy [email protected] of Decentralization and Federalism Comparative politics is under assault. Scholars armed Introduction with quantitative technologies and schooled in the research Daniel Treisman 4 tradition dominant in American politics have invaded our A Comparative Theory turf. Signs of the onslaught abound. Comparativists com- Of Federal Economic Performance plain that the American Political Science Review only pub- Barry R. Weingast 5 lishes the type of comparative article that an Americanist Fiscal Federalism in would write. World Politics, long the bastion of traditional Developing Economies scholarship in comparative politics and international rela- Robert P. Inman 10 tions, increasingly publishes articles containing tables of re- The Economics and gression coefficients. Young scholars must traverse a mine- Politics of Federalism field to get tenure. The best scholars using non-quantitative Susan Rose-Ackerman16 methods are vulnerable to the sort of tenure letter that says Formal Theory and so-and-so is very good at he does, but what he does is not Federalism "cutting edge work." At the same time, the best young schol- Jenna Bednar 19 ars using quantitative methods are vulnerable to the sort of Decentralization and tenure letter that says so-and-so may know something Hard Budget Constraints about game theory, but she doesn't know anything about Jennie Litvack Argentine (or French or Chinese) politics. In a divided disci- Jonathan Rodden 23 The Political Economy pline, no one can please all sides. Of Decentralization in Comparative politics has been invaded before. In the Latin America early postwar period, the behavioral revolution in American Karen Remmer politics spawned a generation of comparativists who ap- Erik Wibbels 28

APSA-CP Newsletter, Winter 2000 1 plied the new technology of public opinion research around the globe. The introduction of survey research in comparative politics had a longlasting impact. Today, public opinion Section Officers research is well-established in every rich and middle income democracy. Nevertheless, the first invasion was largely re- sisted and survey researchers in comparative politics were President Michael Wallerstein marginalized. Twenty years ago, young comparativists were Northwestern University captivated by the sweeping historical-comparative analyses [email protected] of Barrington Moore, Karl Polanyi, Immanuel Wallerstein or Joseph Schumpeter. For a while, it was the Americanists Vice-President, President-Elect turn to be invaded as the comparative-historical approach Michael Wallerstein Northwestern University was applied to the study of politics in the United States by [email protected] Walter Dean Burnham, Theda Skocpol, Stephen Skow- ronek and others. Secretary-Treasurer The current generation of invaders differs from the sur- Atul Kohli Princeton University vey researchers in fundamental ways. Economics, rather [email protected] than social psychology, is now the dominant source of im- ported theories and methods. While the standards of statisti- 1999 APSA Program cal work have grown over time, many of the new quantita- Coordinator tive scholars are more concerned with deductive theory- Ellen Comisso University of California, San Diego building than with data analysis. Most importantly, the new [email protected] generation of quantitative comparativists are generally concerned with impact of political institutions as opposed to the earlier concern with individual attitudes or class conflict. At-Large Committee Members So what should the response of comparativists be to the Barry Ames new generation of scholars who insist on studying "our" University of Pittsburgh countries in the same way that Americanists study the US [email protected] Congress. The first response should be to celebrate that central fact that makes such an invasion possible, that is the Ian McAllister Australian National University spread of democracy. However one evaluates the function- [email protected] ing of democracy in the US, it is surely a great advance that politics in much of the world is much more similar today to Sidney Tarrow politics in the US than it was twenty five years ago. Cornell University [email protected] The second response to the invaders should be to incor- porate the new technologies that the invaders have intro- George Tsebelis duced. When theory becomes sufficiently complex, mathe- University of California, matical language becomes indispensable for ascertaining Los Angeles [email protected] what conclusions follow from a given set of assumption. When our data can be put in quantitative form without los- Jennifer Widner ing essential information, quantitative techniques are the University of Michigan, Ann Arbor only way to determine with precision what can and cannot [email protected] be inferred from the evidence. I hasten to say that I am not

advocating the abandonment of traditional methods of research in comparative politics. My argument is that the more varied the research tools in our toolbox, the likelier we

2 APSA-CP Newsletter, Winter 2000 are to have access to the best tool for the particular task we face. New research tools lead to new research questions. Until Newsletter Staff recently, no one in comparative politics paid much attention to Duverger's law. Suddenly, the impact of the rules whereby votes are turned into seats in parliament is a thriv- Editor Miriam Golden ing area of research. The institutional details of how parlia- University of California, ments, or the courts, are organized may have important Los Angeles consequences that have been largely neglected until re- [email protected] cently. The new emphasis on the potentially large effects of small differences in political institutions has added an im- Associate Editor Daniel Treisman portant dimension to the study of comparative politics. University of California, Yet, if comparative politics abandoned its traditional Los Angeles questions in the rush to embrace a new research agenda, [email protected] the loss would exceed the gain. The problems studied by Assistant Editor most Americanists are narrowly political from the perspec- David Yamanishi tive of traditional comparativists. In part, it is inevitable that University of California, single-country specialists will engage in a more extensive di- Los Angeles vision of labor than comparative scholars. In part, the nar- [email protected] rowness of the research topics reflects the stability of Ameri- can political institutions and the small range of differences Regional Editors-at-Large with regard to policy choices from one administration or Congress to another. Middle East The connections between political institutions and eco- Leonard Binder University of California, nomic outcomes have greater salience in a comparative Los Angeles context where the variation of both political and economic outcomes is many times greater. Similarly, democratic poli- Latin America tics is neither so widespread nor so stable where it exists Barbara Geddes that comparativists can take the existence of democratic in- University of California, Los Angeles stitutions for granted. Why regimes change from authoritar- ian to democratic and back again remains one of the funda- Formal Analysis and mental questions that comparativists will continue to ad- Methodology dress. Nor, in a world in which ethnic and religious conflict John Londregan University of California, is not diminishing, can comparativists neglect the study of Los Angeles the political causes of inter-group violence. Thus, the third and final response of comparativists to Africa the invaders should be to adapt the new research tools in Daniel Posner order to gain fresh insights regarding the big questions of University of California, Los Angeles institutional change and of the relationship between political institutions and the economy or the patterns of social inter- Europe action that have defined comparative politics but are sel- Ron Rogowski dom asked in American politics. In the long run, the migra- University of California, Los Angeles tion of ideas from one field to another strengthens both, especially if the field that imports the new ideas is not afraid to modify and adapt them for its own ends.

APSA-CP Newsletter, Winter 2000 3 Symposium

The New Political Economy of Decentralization and Federalism

Introduction

Daniel Treisman University of California, Los Angeles [email protected]

Political and fiscal decentralization have hit the headlines in recent years. At the turn of the 21st century, it is hard to find a corner of the globe where there are not at least two or three projects un- derway to devolve political or economic authority down to regional or local governments. Re- sponding to these events, research on decentralization and federalism has undergone a remarkable renaissance. For this issue, we asked a number of political scientists and economists to share their thoughts on what recent experience has taught us. The contributions that follow are both varied and surprisingly consistent in suggesting the fasci- nating research that remains to be done in this area. Barry Weingast opens the symposium, pro- posing a comparative theory of federalisms – good and bad – that builds on his well-known work on ‘market-preserving’ federalism. Robert Inman, fresh from the trenches, reports on his experience applying theory to the design of institutions in post-apartheid South Africa. Susan Rose-Ackerman explores some differences and similarities in the ways political scientists and economists think about decentralization, and raises some provocative doubts about the ‘states as laboratories’ argument often traced to Justice Brandeis. Jenna Bednar reviews several decades of thought in economics and political science about modeling federal states. Jennie Litvack and Jonathan Rodden discuss the evolving approach to decentralization of the World Bank – a major institutional contributor to these debates – and describe an ambitious, ongoing research project to explain the hardness or softness of subnational budget constraints. Finally, Karen Remmer and Erik Wibbels explore ways in which the fiscal federalism literature must develop if it is to illumi- nate the particular problems of decentralization in Latin America. If one impression dominates others in reading this collection, it is of the towering shadow still cast more than four decades later by Charles Tiebout’s nine-page note in the Journal of Political Economy. Tiebout has become synonymous with the idea that free competition between local or regional governments to attract capital or residents will lead to efficient provision of local public goods and efficient sorting of residents by taste. His name comes up in five out of the six articles. A more recent article in the JPE chose a question for its title: “Tiebout or Not Tiebout?” The answer must clearly be… “Tiebout.” Still, what is Tiebout’s role in current debates? Running through the new literature on decentralization is a focus on the ways in which Tiebout’s vision of efficient competition fails to reflect observable reality. Even Weingast, whose theory of market preserving federalism owes much to the Tiebout way of thinking, looks in his contribution to this issue at the ways in which many de jure federal states fall short of the desirable qualities that subnational competition is thought to bring.

4 APSA-CP Newsletter, Winter 2000 Consider a parallel. The experienced sustained A Comparative Theory Coase Theorem is arguably growth. In contrast, India, the of Federalism the most celebrated economic large Latin America federal To understand the com- result of the second half of the states of Argentina, Brazil, parative theory of federal per- 20th century. Yet, it stimulated and Mexico, and modern formance, I develop a set of economic thought ultimately Russia have all fared much conditions that help differenti- by provoking scholars to think more poorly. How do we ac- ate among federal systems. systematically about why in count for such large differ- All federal systems decentral- practice it does not hold. Is the ences in economic perform- ize political authority, so a new political economy of de- ance? clear necessary condition for centralization about to develop The first observation to federalism is: into something comparable to make is that federalism is not transaction cost economics? a single system with one type (F1) there exist a hier- We will have to wait and see. of tendency. Federalism is in- archy of governments But the contributions that fol- stead a category of systems with a delineated scope low suggest a vigorous intel- whose political and economic of authority. lectual move in this direction. properties vary widely. It therefore seems inappropriate Yet federal systems differ to speak of the tendencies or enormously in how they allo- A Comparative Theory properties of federalism per cate power. The following of Federal Economic se, as so often occurs in the conditions characterize how Performance literature. Some federal sys- federal states allocate power tems may promote economic among national and subna- Barry R. Weingast growth or macroeconomic tional governments. Stanford University stability while others do not. email In this article, I present a (F2) Subnational theory that allows us to ex- autonomy. Do the sub- Introduction plain and predict differential national governments Why do federal systems federal economic perform- have primary authority perform so differently? Con- ance. The theory provides an over the local econ- sider: For the last three centu- explanation of why some fed- omy? ries, the richest nation in the eral systems grow so rich, sus- world has always been fed- taining the richest economy (F3) Common market. eral. The Dutch Republic in the world, while others re- Does the national gov- from the late sixteenth main poor and exhibit low ernment have the au- through mid-seventeenth cen- growth. thority to police the turies, England from the late The next section discusses common market? seventeenth or early eight- various conditions character- eenth until the mid- izing different federal systems. (F4) Hard budget con- nineteenth century, and the The third section applies the straints. Do all govern- United States from the late framework to a range of ments, especially sub- nineteenth and throughout countries around the world. national ones, face the twentieth century. Simi- My conclusions follow. hard budget con- larly, modern China, a de straints? facto federal state, has also

APSA-CP Newsletter, Winter 2000 5 (F5) Institutionalized Without F3, each subnational realms of public policy be- authority. Is the alloca- government would become a yond that government’s tion of political author- de facto “national govern- reach. For lower govern- ity institutionalized? ment” in its jurisdiction, short- ments, constraints are im- circuiting federalism’s limits posed in two ways. First, the To make this discussion on lower governments. central government polices manageable, I will ignore A hard budget constraint state abuses of the hierarchy, many subtleties and simply (F4) concerns fiscal transfers such as encroachments on assume that each condition among levels of governments the common market (F3). either holds or not. We can and government borrowing Second, the induced competi- thus characterize different (see McKinnon, 1997, and tion among lower jurisdictions federal systems as to which Wildasin, 1997). Under this places self-enforcing limits on conditions they satisfy, rang- condition, the federal govern- these governments’ ability to ing from F1 alone to F1 and ment cannot bail out states act arbitrarily (Tiebout, 1956, some of the others, to F1-F5. that go into deficit due to fis- and Rubinfeld, 1987). I first consider an ideal cal imprudence; and it pre- No government has a mo- type of federalism that satis- vents states from endlessly nopoly of regulatory authority fies all five conditions called bailing out failing enterprises. over the entire economy, so market-preserving federalism A hard budget constraint no government can create (see Weingast, 1995). In com- does not limit fiscal transfers monopolies, massive state bination, these conditions to poorer regions, however; owned enterprises solely to help foster and preserve mar- but it does constrain how and provide jobs or patronage, kets. The logic is as follows. under what circumstances fis- and other forms of inefficient Conditions F2-F5 limit na- cal transfers are made. economic intervention that tional power to the task of po- Condition F5 provides for plague developing countries. licing subgovernmental en- credible commitment to the A subnational government croachment on the common federal system. This condition that seeks to create monopo- market and to providing na- requires that, beyond simple lies or a favored position for tional public goods, such as decentralization, the federal an interest group places firms defense and a stable macro- structure must not be under in its jurisdiction at a disad- economic regime. Power to the discretionary control of the vantage relative to competing regulate markets is reserved national government. The ab- firms from less restrictive juris- for the subnational govern- sence of this condition allows dictions. ments (F2). Competition the national government to Competition also induces among lower governments for compromise subnational gov- subnational governments to factors of production and tax ernment autonomy and hence provide a hospitable environ- revenue limits the discretion- the benefits from competition ment for factors of produc- ary authority of these govern- among them. tion, typically through the ments. Jurisdictions that fail A critical feature of mar- provision of local public to foster markets risk losing ket-preserving federalism is goods, such as establishment capital and labor and hence that it limits the exercise of of a basis for secure rights of valuable tax revenue. A nec- arbitrary authority by all lev- factor owners, provision of essary condition for this com- els of government. Federalism infrastructure, utilities, access petition to be beneficial is the limits the central government to markets, safety nets, and absence of trade barriers. directly by placing particular so on. Jurisdictions that fail to

6 APSA-CP Newsletter, Winter 2000 provide these goods find that produce seemingly contradic- posed by market discipline. factors move to other jurisdic- tory results. Some areas will The absence of condition F4 tions. be observed to promote mar- thus diminishes a federal sys- Third, under a hard kets while others will closely tem’s political incentives for budget constraint (F4), local control their economy, espe- fiscal prudence and to limit governments can go bank- cially to prevent influence political rent-seeking and corrupt. This provides subna- from outside the jurisdiction. ruption. tional governments with the The absence of a common A final type of federalism incentives for proper fiscal market also implies far less fails condition F5; for exam- management. Local enter- pressure against political cor- ple, a system in which the prises, politicians, and citizens ruption. Corruption is likely to federal government can com- hardly want their government be higher in those jurisdic- promise subnational govern- to spend more money than is tions that raise high trade bar- ment autonomy, perhaps by prudent. Bankruptcy would riers. declaring an emergency and greatly hinder the ability of A second type of federal legally taking over the state. local governments to finance system satisfies all the axioms This power compromises the necessary public goods, such except F4. Several problems value of political decentraliza- as those needed to attract for- are likely to emerge in federal tion since it allows the federal eign capital and lower busi- systems that fail condition F4, government to threaten states ness costs. especially systems that decen- that seek to deviate from fed- The set of conditions goes tralize authority over credit so erally desired policies. beyond market-preserving that it remains at least in part federalism to form a com- at the discretion of subna- Explaining Differential parative theory of federalism. tional governments. The most Economic Performance The economic and political obvious effect is inflation as The payoff from the ap- performance of federal sys- each government “over- proach is that it differentiates tems vary systematically grazes the commons,” caus- the economic performance of when one or more of the con- ing too much growth in the various federal systems. My ditions fail to hold. money supply. China in the approach shows that whether Consider a federal system late 1980s and early 90s ex- a nation calls itself federal “de that satisfies all conditions but perienced modest inflation as jure federalism” is irrelevant.1 the common market axiom a result while Brazil in the What matters for federal per- (F3). The absence of a com- 1990s experienced hyperin- formance is the combination mon market allows lower ju- flation Decentralized access to of conditions that hold. risdictions to erect trade barri- credit softens the hard budget The following table sum- ers. This implies that some ar- constraint. Governments can marizes the effects of the con- eas, particularly those whose finance massive rent-seeking, ditions on federal perform- economies are not likely to unremunerative public works ance. Federal states that have perform well under open projects, or corruption and met all or nearly all five con- competition, are likely to then borrow more to cover ditions – that is, those charac- erect trade barriers to firms their deficits. Decentralized terized by market-preserving and products from other ar- access to credit also allows federalism – have experi- eas. A federalism of this sort lower jurisdictions to bail out enced sustained long-term (one which is only incom- ailing enterprises, compromis- growth. Federal states failing pletely market-preserving) will ing economic incentives im- to meet these conditions have

APSA-CP Newsletter, Winter 2000 7 experienced meager or no and improved local govern- both experienced hyperinfla- growth. Throughout its his- ment autonomy. This proved tion due in part to profligate tory, the United States has especially important during behavior of the lower govern- been a market-preserving fed- the industrial revolution, ments, which forced the federal system. Except for a brief which took place not in the eral government to bail them period under the Articles of established commercial cen- out. Until recently, the long- Confederation, the common ters but in more remote dominant PRI used its central market condition, F3, has al- northern England (Weingast, power, including the power to ways held, as has the hard 1995). fire governors (compromising budget constraints, F4 (the Similarly, many de jure F5) to limit lower government national government does not federalism systems are noth- autonomy. Lower govern- bail out states). Until the ing like market-preserving ments in these systems have 1960s, states retained the federalism. For example, in neither the incentive nor the lion’s share of authority over Argentina, Brazil, and Mex- ability to differentiate them- economic regulation. As I ar- ico, conditions F2 and F5 fail, selves from their neighbors. gue (Weingast, 1995), the and often F4. In most Latin More broadly, the failure of conditions contribute signifi- American federalisms, the F2 and F5 implies that the cantly to this country’s eco- lion’s share of state revenue political discretion and au- nomic prosperity and growth. comes from the national gov- thority retained by the central Similarly, England during ernment. This creates several government in these systems the 18th century and thus the problems. First, it breaks the greatly compromise their industrial revolution had a link between local economic market-preserving qualities.2 market-preserving federal prosperity and fiscal health. The de jure federalism of structure, though not a de Second and perhaps more the former Soviet Union pro- jure one. Constitutional importantly, along with that vides another contrast be- changes following the Glori- much revenue come restric- tween market-preserving fed- ous Revolution of 1689 lim- tions, rules, and regulations of eralism and other forms of ited the national govern- the center. Argentina in the decentralization.3 In that sys- ment’s role in the economy 1980s and Brazil in the 1990s tem all conditions but F1

Types of Federalism and Economic Growth Sustained Growth Meager Growth Dutch Republic, 16-17 c Market-Preserving Great Britain during the Federalism industrial revolution US, 1787 - present Modern China Modern Russia Post-WWII: Other Federal Systems Argentina Brazil India Mexico

8 APSA-CP Newsletter, Winter 2000 failed. The Soviet Union was them to provide a remarkably four conditions: it limits the characterized by the nearly hospitable environment for authority of the national gov- complete absence of subna- markets and hence sustained ernment over the economy; it tional government policy dis- economic growth (Montinola, fosters competition among cretion. Lower governments Qian, and Weingast, 1995). lower governments in part were administrative units of Indeed, Guangdong’s famous through the common market; the central government hav- “one step ahead” allowed it it limits the ability of the na- ing little power over their lo- to use its new discretion over tional government to bail out cal economies. The center the economy that attracted an fiscally imprudent behavior; also carefully controlled factor unprecedented level of invest- and it limits the ability of the mobility. As a consequence, ment and economic growth. national government to com- federalism provided no posi- promise lower government tive incentives toward eco- Conclusions autonomy. Federal systems nomic growth. The absence This article sketches a that fail to satisfy one or more of a hard budget constraint comparative theory of federal of these conditions only in- (F4) allowed the state to bail performance. I propose four completely foster markets, if out ailing state-owned enter- conditions that differentiate they do so at all. prises, removing all incentives among federal systems. The The discussion in section for these firms to produce effi- conditions relate to the differ- 3 shows that this framework ciently. ent ways in which federal sys- helps explain why federal sys- Next, consider modern tems allocate political and tems exhibit such divergent China. Although it does not economic power among the economic performance. Fed- call itself federal, China has levels of government. The eral states characterized by instituted serious decentraliza- theory demonstrates that dif- market-preserving federalism tion of political decision- ferent allocations of power experience sustained growth, making, particularly over the yield different patterns of eco- including the United States, economy. China now satisfies nomic performance. A spe- Modern China, the Dutch Re- all the conditions except F3, cific subset of systems satisfy- public in the seventeenth cen- though there was a modest ing all four conditions, called tury, and England during the problem with soft-budget market-preserving federalism, eighteenth century. Federal constraints leading to modest have experienced sustained states not characterized by inflation in the 1980s. The economic growth. Other market-preserving federalism failure of F3 implies that types of federal systems sat- fail to exhibit sustained many interior provinces have isfy fewer or none of the con- growth, including modern created trade barriers and ditions and have much Russia, the former Soviet Un- “dukedom economies.” Be- poorer economic perform- ion, India, and the large fed- cause many of the coastal ance. eral states in Latin America, provinces seek to earn rents Market-preserving federal- such as Argentina, Brazil, and on the competitive market, ism holds the potential for Mexico. the lack of a domestic com- fostering markets, in part be- Obviously, this approach mon market provides only a cause it limits the interven- only covers certain aspects of modest constraint on their be- tionist tendencies that plague federalism, particularly the re- havior. These provinces’ po- all levels of government in de- lationship between political litical autonomy over eco- veloping countries. This ideal authority and economic per- nomic regulation has allowed type of federalism satisfies formance. This focus omits a

APSA-CP Newsletter, Winter 2000 9 range of important aspects of tem federal (Weingast, ment,” Journal of Law federal performance, such as 1995). Economics, and Organiza- ethnic or regional harmony, tion 11 (1), pp. 1-31. and the mechanisms provid- References Wildasin, David. E. (1997), ing for political stability, nota- McKinnon, Ronald I. (1997), “Externalities and Bail- bly the party system. “Market-Preserving Fiscal outs: Hard and Soft Let me conclude by mak- Federalism in the Ameri- Budget Constraints in In- ing an important observation can Monetary Union,” in tergovernmental Fiscal about this approach to feder- Mario I. Blejer and Teresa Relations,” ms., Vander- alism: it makes no mention of Ter-Minassian, eds., Mac- bilt University. democracy. Perhaps democ- roeconomic Dimensions Williamson, Oliver E. (1996) racy—particularly certain of Public Finance, “The Institutions and types of competition among Routledge, pp. 73-93. Governance of Economic parties—provides a major Montinola, G., Y.Y. Qian, Development and Re- mechanism that helps sustain and B.R. Weingast form,” in his Mechanisms federalism (see Riker, 1964). (1995), “Federalism, Chi- of Governance, Oxford This is not a condition for nese Style – The Political University Press. federalism, however, but for Basis for Economic Suc- federal stability. Further, most cess in China,” World discussions of this point at Politics 48 (October), p. 1. Fiscal Federalism in best argue that certain forms Parikh, Sunita, and Barry R. Developing of party competition are a Weingast (1997), “A sufficient condition for federal Comparative Theory of Economies: stability, not a necessary con- Federalism: India,” Vir- Lessons Learned From dition. Our discussion of fed- ginia Law Review 83 (7). Working in eralism in China (Montinola, Rubinfeld, Daniel (1987), South Africa Qian, and Weingast, 1995) “Economics of the Local suggests that stable federalism Public Sector,” in Alan J. Robert P. Inman can occur without democ- Auerbach and Martin University of Pennsylvania racy. Nonetheless, a major Feldstein, eds., Handbook email open question concerns the of Public Economics, mechanisms by which feder- North Holland. In May, 1994, I had the alism becomes self-enforcing. Riker, William (1964), Feder- special opportunity to visit alism: Origin, Operation, South Africa as part of a Notes Significance, Little Brown. World Bank mission led by 1. Williamson (1996). Tiebout, Charles (1956),”A Dr. Junaid Ahmad to assist 2. On India’s problematic Pure Theory of Local Ex- the new ANC-led government brand of federalism, see penditures,” Journal of on the design and implemen- Parikh and Weingast Political Economy 64 tation of its fiscal constitution. (1997). (October), pp. 416-24. The mission included Dr. 3. In contrast, 18th century Weingast, Barry R. (1995), Charles McLure as an advisor England was characterized “The Economic Role of on tax policy and Professor by market-preserving fed- Political Institutions: Mar- Richard Bird as an advisor on eralism, although the Eng- ket-Preserving Federalism the public administration of lish did not call their sys- and Economic Develop-

10 APSA-CP Newsletter, Winter 2000 fiscal policy. My job, with and smaller local jurisdictions vious, then treat them as con- considerable help from Jun- were given responsibility for firming but still valuable data aid, Charles, and Richard, providing childcare, electricity points, tightening your confi- was to assist the Department and gas, sanitation services dence intervals. The usual dis- of Finance, the new Depart- and waste removal, local claimer applies: These are my ment of Provincial Affairs and public transit, firefighting, and own views and do not repre- Constitutional Development, water. Local governments re- sent an official position of the and the constitutionally cre- tained their right to tax prop- World Bank or the views of ated Financial and Fiscal erty and to levy service fees. Drs. Ahmad, Bird, or McLure. Commission in thinking In contrast, and for reasons Lesson No. 1: Whatever through a financing structure which will soon become ap- their economic virtues, politi- for the nine new Provinces parent, the new provinces cally independent provinces and the country’s major ur- were granted only limited and cities are created by consti- ban centers. The interim Con- own taxing powers, which tutions primarily for political, stitution, the result of 18 have not yet amounted to not economic, reasons. The months of difficult negotia- more than seven percent of economic theory of federalist tions between the African Na- total provincial revenues. Pro- institutions, so nicely summa- tional Congress (ANC) and vincial revenues were to rized by Wallace Oates (1972), the old apartheid regime, was come from the national gov- offers a persuasive economic quite explicit in its commit- ernment, through a constitu- argument for fiscal decentrali- ment to a decentralized struc- tionally guaranteed share of zation. With the appropriate ture of government responsi- nationally collected tax reve- assignment of spending and bility, though never officially nues. Local governments taxing responsibilities, provin- called “federal” because of were also guaranteed a share cial and local governments can the link of that word to apart- of all nationally collected tax provide public goods effi- heid’s homeland policies and revenues. The official Consti- ciently. There is good evidence the National Party’s and the tution, adopted in May of now that at least in developed Inkata Freedom Party’s de- 1996, has largely followed the economies such efficiencies re- mands for protected minority decentralized fiscal structure sult. All of this analysis and evi- rule governments. outlined in the original, in- dence, however, seems to “Devolution” – the preferred terim Constitution. have very little to do with why code word – was to be an im- Since that initial visit, I actual federations form. Wil- portant component of the have continued to advise the liam Riker’s (1964) treatise on new democracy. In the in- government on a design for federalism argues that political terim Constitution, the nine funding a system of decentral- unions form because one new provinces – boundaries ized governments. Whatever dominant party to the federal were based on earlier eco- my contribution, the experi- bargain wants to expand its nomic development regions – ence has given me a far clearer political control and the other and the national government understanding of the potential parties to the bargain sacrifice were given shared responsi- role for decentralized fiscal in- some political independence bility for elementary and sec- stitutions in developing econo- for the protection such a union ondary education, environ- mies. In sharing these lessons provides. This seems an accu- ment, housing, economic de- learned, I hope you will forgive rate description of the motives velopment, health care, pub- my naïveté on matters political. that lay behind the provincial lic transit, and welfare. Cities If my lessons strike you as ob- structure of South Africa’s in-

APSA-CP Newsletter, Winter 2000 11 terim, and final, Constitution. tween the national and provin- Commission’s proposals, the By 1990, it was clear to the cial governments, satisfying the provinces in South Africa, their National Party (NP) leadership NP and IFP. In return, police spending responsibilities, and that the economic, and per- and military powers would re- their revenues exist for political haps personal, survival of the main solely the responsibility of reasons only. white residents of South Africa the national government, and Lesson No. 2: In designing required sharing power with as noted, provincial revenues decentralized fiscal structures the country’s African majority, were to come almost exclu- for developing economies, Tie- represented by the ANC. The sively from the national gov- bout is irrelevant. This lesson original NP position was to de- ernment. With these constitu- took about one day to learn. mand fiscally independent pro- tional assignments, provinces Remember what the Tiebout vincial governments and de would control the bureaucracy theorem says: If 1) the goods facto unanimity rule for central for the deliver of public ser- being provided by government government decisions. In these vices while the national gov- are congestible (not pure) pub- demands, the NP found a ernment would control fund- lic goods; 2) there is a perfectly ready ally in the leader of the ing. In principle, both tiers of elastic supply of new commu- Inkatha Freedom Party (IFP), governments, and thus each nities; 3) households are fully Chief Mangosuthu Buthelezi, tier’s ruling political party, informed about the fiscal attrib- seeking to protect his privi- would need each other. To en- utes of each community; 4) leged position from the old sure provinces would receive households are mobile be- homeland structure. The ANC sufficient monies, the interim tween communities; and 5) rejected these demands for a and final Constitutions explic- there are no spillovers across confederal form of government itly required that national tax communities, then government and made clear that majority revenues be shared services will be efficiently sup- rule was a non-negotiable re- “equitably” with provincial and plied to the residents of each quirement for any new consti- local governments. The last community. This is an impor- tution. The final bargain link in the constitutional bar- tant result. There are good rea- among these three important gain left the definition of sons to think that the condi- parties, a compromise which “equitable” to an expert com- tions of the theorem hold in allowed for a peaceful all-race mission of lawyers, account- many metropolitan areas of election in April, 1994, estab- ants, and economists, none of the United States and that the lished nine provinces, three of whom could hold elected office valued outcome of economic which were likely to be con- while serving on the Commis- efficiency results. While ap- trolled by the minority parties sion. Commission members provingly cited by most advo- to the agreement: KwaZulu- would be appointed by the cates for fiscal decentralization Natal (IFP), Western Cape newly elected national and of governmental institutions, (NP), and Northern Cape provincial governments. the theorem’s five conditions (NP). The central government Named the Financial and Fis- are very demanding and only was to be run by a nationally cal Commission (FFC), the likely to hold in large metro- elected majority (ANC), with Commission finished its work politan areas with many gov- shared ministerial leadership in May, 1996, and the ernments, sophisticated land with the NP and IFP. Under “equitable share” formula was markets, and efficient resident- the interim Constitution, im- approved by Parliament as based financing. Conditions portant public services respon- recommended. While sound (1) and (5) are technological sibilities would be shared be- economic thinking guided the facts and hold for many impor-

12 APSA-CP Newsletter, Winter 2000 tant public services both in de- ration congestible services undermines the equity objec- veloped and developing within communities. In Tie- tive and is noticeably silent on economies: education, health bout’s world, residents pay for how to achieve economic care, sanitation, recreation, po- their public services through a growth. Using Tiebout’s argu- lice and fire protection, and per resident fee, administered ments as a sole, even a pri- secondary roads are good ex- as a property tax, a resident- mary, basis for institutional de- amples. Condition (4) depends based income tax, or simply as centralization in developing on the private economy and a head tax. This works fine if economies does not make cultural preferences for loca- you have a sophisticated land much sense. tion, but it is certainly met in market, formal labor markets Lesson No. 3: We know South Africa – just witness the with employee records, or surprisingly (and distressingly) transformation of Johannes- ways of counting residents who little about the effects of decen- burg since the fall of apartheid. use the public service. Right tralized fiscal institutions on Condition (3) is also likely to now, however, all three are economic growth. While I felt hold in South Africa, certainly largely missing in the town- comfortable discussing the ef- in the major urban centers ships that surround South Af- fect of decentralized fiscal sys- where citizens actively discuss rica’s major cities. Public sector tems on fiscal equity – its bad, local politics and a free press entrepreneurs, called new and gets worse the more you covers political misdeeds. town “managers”, will face the decentralize – I hesitated to The problem is condition same obstacles in running a make a case for, or against, in- (2). An elastic supply of new Tiebout-style local government dependent provincial and local communities really means an as their private sector counter- governments as contributors to elastic supply of public or pri- parts. economic growth. Plausible ar- vate entrepreneurs. Tiebout’s Even if Tiebout’s five con- guments can be made either original vision relies upon pri- ditions hold, I doubt that the way, and the empirical evi- vate real estate developers, theorem’s primary accomplish- dence is mixed at best chartered by a provincial or ment of ensuring static eco- (Davoodi and Zou, 1998). Al- national government, to build nomic efficiency stands very locating significant fiscal pow- new communities to provide high on the list of pressing na- ers to lower tier governments those public services in scarce tional objectives in most new has at least three potentially supply. New suppliers arise democracies or developing adverse effects on economic whenever entrepreneurial prof- economies. Certainly this is growth. First, to the extent its can be earned. In the Tie- true in South Africa. The cen- monitoring and motivating lo- bout model profits are earned tral objective of national do- cally elected officials is more through the selling of locations. mestic policies as outlined in expensive than monitoring and That process requires a well- the national government’s motivating centrally appointed functioning property market, Growth, Employment, and Re- administrators, corruption and however; yet in major sections distribution, or GEAR, agenda rent-seeking will be greater of the urban townships of is to correct decades of eco- with independent local govern- South Africa property markets nomic inequities by stressing ments (Treisman, 1997); such do not exist. Even when such the twin goals of more equal rent-seeking has been shown property markets do exist to access to public services and to have strong negative effects efficiently allocate citizens stronger economic growth. Tie- on investment and growth across communities, user fees bout’s model of decentralized (Alesina, 1998). Second, hon- will still be needed to efficiently public finance, when it works, est locally elected officials will

APSA-CP Newsletter, Winter 2000 13 pursue policies that are best for and tax responsibilities. Third, balanced-budget approach to their local constituents, but balanced budget, no bailout intergovernmental transfers. when local services and taxes rules enforced by an independ- The strong party structure of have significant spatial spill- ent judiciary can check the the ANC minimizes the risk overs then local services will be moral hazard of excessive local that any new provincial grants underprovided and local taxes borrowing (Inman, 1997), will become part of a larger, overused. Third, local officials, while formal and informal insti- distributive budget logroll. Fur- again seeking to maximize lo- tutions strengthening the hands ther, recent attempts by the cal support, will seek to shift of central government political provinces of KwaZulu-Natal local costs onto the national parties and executives can (an Inkata majority province) fisc through excessive intergov- control the moral hazard of ex- and the Eastern Cape (an ernmental aid and debt bail- cessive intergovernmental aid ANC majority province) to lev- outs. To the extent these strate- (Inman, 1988). At the mo- erage their large welfare case gies are successful, government ment, South African provinces backlog into increased general distributive expenditures and and municipal governments assistance for provincial spend- public debt will increase and are not allowed to borrow from ing resulted in Finance Depart- economic growth will suffer international lenders. Larger ment oversight of provincial (Alesina, 1998). cities have been informally spending, a “tax” on future aid None of these three flaws “cleared” by the Finance De- to repay current overspending, of institutional decentralization partment to borrow from the and the dismissal of the ANC need be fatal to the growth ob- domestic markets; the new Eastern Cape official responsi- jective, however; each has an provinces have not. For the fu- ble for administering welfare effective remedy. First, a strong ture, the Finance Department services. national stance against local is developing detailed guide- If there is a case for decen- corruption coupled with official lines to supervise local borrow- tralized fiscal institutions as oversight and well publicized ing powers and financial mar- contributors to economic firings or prosecutions can help ket oversight with explicit growth it will have to rest on check local corruption. The court-enforced “no-bailout” their ability to train a skilled ANC has signaled its intentions provisions within the regula- and motivated labor force, to pursue this strategy in its tions. Presently, central gov- provide public infrastructure to firm handling of a recent public ernment aid to provincial and meet local business needs, en- corruption case involving a lo- local governments is allocated courage private capital accu- cal mayor. Second, the consti- by an exogenously specified mulation, and protect property tutional assignment of local needs-based formula and is rights. There are good reasons public goods and resident- budgeted to ensure that aggre- to think that well run and inde- based taxation to provinces gate grants spending stays pendent local and provincial and cities and pure public within the country’s overall governments might have com- goods and non-resident (VAT, budget constraint. While minor parative advantages over a natural resource, and capital) adjustments to the original eq- central government in doing taxation to the national gov- uitable share aid formula are each of these activities. Be- ernment avoids fiscal ineffi- now being proposed, the yond basic education (centrally ciencies from local spillovers. agenda-setter is the Depart- funded), labor training is most The new South African Consti- ment of Finance, and the De- effective when it meets the tution has adopted an appro- partment is committed to the needs of local industry. Be- priate assignment of spending Commission’s formula-driven, yond primary roads and cen-

14 APSA-CP Newsletter, Winter 2000 tral communication networks ers. Either way the central gov- impartiality. An analogy to the (centrally provided), public in- ernment will be tempted to Congressional Budget Office frastructure, best financed override the constitutionally seems appropriate. The FFC through local borrowing, is assigned powers of provincial has recently proposed that most productive when de- or city governments. Signs of provinces be given their own signed to complement local both pressures to re-centralize power to tax residential in- private capital. Beyond the en- are evident in South Africa. come, up to an initial maxi- forcement of contracts The abuses of the provincial mum rate of 5.0 percent. (centrally guaranteed), low welfare budget in KwaZulu- NCOP too has recently be- capital taxation and minimal Natal and Eastern Cape and come a more assertive voice business regulations to foster their demands for central gov- on behalf of provincial inter- private capital accumulation ernment bailouts is a case in ests, but NCOP members still are most likely to result from, point; the central government serve two masters: the ANC or to be credibly promised by, is now de facto administering national party and their prov- competitive provincial and lo- those welfare systems. For inces. cal governments (Weingast, those provinces that have South African provinces 1995). In these directions, managed their public monies and cities will survive as inde- South Africa is moving more effectively (Gauteng, Western pendent governments only if slowly. Educational policy and Cape), the nationally elected important national constituen- school budgets are still cen- ANC-dominated Parliamentary cies benefit from what provin- trally decided. Teacher salaries, Assembly has found it conven- cial and local governments do. as well as salaries of all public ient to add new unfunded Riker (1964) identified national employees, are decided mandates to provincial agen- political parties based on coali- through national negotiations. das. Provincial governments tions of local interests as the Public infrastructure invest- appear in danger of becoming most important guardian, at ment is largely directed by the simply administrative arms of least historically, of the federal central government, though the central government. constitutional bargain. This is regulations for a local munici- If the principle of fiscally not the ANC. I suspect the best pal credit market permitting independent provinces (and hope that South African pro- borrowing by South Africa’s cities) is to survive in practice, vincial and city governments major cities will be in place protection will have to come have for the long run is to be soon. Capital taxation is still from the two institutions cre- more efficient providers of centrally controlled. ated by the Constitution for public services in the short-run Lesson No. 4: From the that purpose: the Financial and than their national bureau- bottom and from the top, the Fiscal Commission (FFC) and cratic counterparts. The politi- constitutionally allocated pow- the second house of Parlia- cal pressures today are to pro- ers to decentralized fiscal insti- ment, the National Council of vide public services to the tutions are constantly under Provinces (NCOP), composed poor, to make some headway challenge. Weak, ineffective of the provincial premiers and in controlling crime, and to local leaders will look to the provincially elected representa- hold down taxes on the middle national government for policy tives. The FFC has only weak class and rich. At the moment, leadership and financial bail- agenda-setting and gate- what the ANC leadership outs. Strong, effective local keeping powers; its influence needs, and respects, most are leaders pose a future political lies in the quality of its ideas talented public managers. If threat to current national lead- and its present track record for those managers work for prov-

APSA-CP Newsletter, Winter 2000 15 inces and cities and exploit the Federalism, Harcourt, and the task for the next gen- comparative advantage of Brace, Jovanovich. eration of scholars is to bridge lower tier governments as ser- Riker, William (1964), Federal- these gaps in theory and em- vice providers – today, Gau- ism: Origin, Operation, pirical work. teng and Western Cape, Jo- Significance, Little, Brown Political scientists often hannesburg and Cape Town and Co. see federalism as a realistic are examples – then those Treisman, Daniel (1997), “The response to governing a geo- provinces and cities will con- Causes of Corruption: A graphically fractured society. tinue to survive as independent Cross-National Study,” The nation stays together at governments. Working Paper, UCLA. the top only by granting con- Weingast, Barry, “The Eco- siderable autonomy to re- References nomic Role of Political In- gional groupings. The most Alesina, Alberto (1997), “The st i tutions: Market - common examples are ethni- Political Economy of High Preserving Federalism and cally, racially, and religiously and Low Growth,” in B. Economic Development,” divided societies where the Pleskovic and J.Stiglitz, Journal of Law, Econom- groups are geographically eds., Annual World Bank ics, and Organization 11, concentrated. The national Conference on Develop- pp. 1-31. government provides some ment Economics, The minimal protection for mi- World Bank, Washington, norities in particular states, DC, pp. 217-237. The Economics and but the bulk of public spend- Davoodi, Hamid and Heng-fu Politics of Federalism: ing and regulation is carried Zou (1998), “Fiscal Decen- out by the states. Crucial to tralization and Economic Tensions and this view is a fairly static no- Growth: A Cross-Country Complementarities tion of individual interest. Study,” Journal of Urban People are identified by Economics 43, pp. 244- Susan Rose-Ackerman membership in a group – an 257. Yale University unchanging feature – and the Inman, Robert P. (1988), email task for government is to pre- “Federal Assistance and vent inter-group hostility from Local Services in the The political and eco- escalating into violence. The United States: The Evolu- nomic benefits of federalism only migration that is ex- tion of a New Federalist and decentralization can be pected, and perhaps encour- Fiscal Order,” in Harvey inconsistent. None of these aged, is of minorities in one Rosen, ed., Fiscal Federal- benefits is illusory, but they state leaving to become resi- ism, University of Chicago cannot all be true in any par- dents of a state dominated by Press, pp. 33-74. ticular case. Worse, features of their group. Inman, Robert P. (1997), “Do federalism that are a benefit Interestingly, economists Balanced Budget Rules under one theory become a have developed a very similar Work? U.S. Experience cost under another. Scholars model of federalism. Unlike and Possible Lessons for approaching the problem political scientists who focus the EMU,” in Horst Siebert, from one perspective often on stability and the preven- ed., Quo Vadis Europe?, J. proceed as if other ways of tion of violence, economists C.B. Mohr, pp. 307-332. looking at the issue simply did model the supply of public Oates, Wallace (1972), Fiscal not exist. This is unfortunate, goods and services. Govern-

16 APSA-CP Newsletter, Winter 2000 ments are essentially produc- nomic and political models. clude the poor and disadvan- tive bodies that act to over- Economists are agnostic taged based on land use zon- come market failures. Reluc- about tastes. In the educa- ing and other restrictive prac- tant to use terms like race and tional area, they tend to talk tices. ethnicity, economists concen- about such things as prefer- So far, I have considered trate on differences in tastes ences for sports versus the models of federalism that start for public services. Federalism arts or preschools versus af- from the premise of interper- allows lower-level govern- ter-school programs. In many sonal differences in prefer- ments to make choices that countries, however, the differences. Another set of models satisfy their residents and can ences in tastes have a decid- emphasizes the way a multi- produce variable levels and edly exclusionary cast. Catho- ple government system en- mixtures of public services. lic parents want not only a courages the efficient produc- Citizens can cluster in govern- Catholic education for their tion of public services, stimu- ments that satisfy their own children but also an educa- lates innovation, and avoids preferences. In such models, tional environment devoid of self-seeking by politicians. the tradeoff facing a constitu- Protestants, and vice versa for These models function best if tional designer is between Protestant parents. Those citizens’ preferences are ho- economies of scale in the pro- who focus on violence and mogeneous. Then govern- duction of public services and the preservation of a fragile ments are modeled like firms a structure that satisfies the state accept these conse- that try to get and retain busi- heterogeneity of tastes. quences. In fact, these schol- ness. Under the simplest To bring the two models ars have an unexpected affin- models, state politics is irrele- together consider a religiously ity for the economic approach vant. Governments are con- divided society where parents in that both accept the exist- trolled by politicians who are want to give their children a ing distribution of preferences self-seeking, but they cannot religious education. Suppose and group loyalties. survive in office unless they that there are cost savings in In contrast, in both politi- satisfy mobile interests. Citi- providing a standardized cur- cal science and economics zens canvass the range of tax riculum. If the Catholics live other scholars worry about \service combinations and in the south of the country state and local exclusionary move to the community they and the Protestants in the policies. Those political scien- prefer. Although public goods north, however, the country tists who emphasize state- are consumed in common by might be organized into two building and democratic citi- residents of a particular com- states each with authority to zenship are uncomfortable munity, the production func- organize its own schools. The with a federalism that exacer- tion for services experiences state would sacrifice some bates and even encourages diminishing returns as the cost savings in the production interpersonal and inter-group population rises. The service of education in order to pro- differences. Similarly, some becomes congested; to main- duce the variety in educa- economists worry about the tain service levels spending tional services demanded by external costs of exclusionary must increase. Beyond some residents. Families could mi- policies. Sorting by prefer- minimum efficient scale, mar- grate to the state of their ences for public services ginal costs rise with respect to choice. This example illus- seems fine to them, but they population. This is a funda- trates why there is often an balk at local government ef- mental assumption of Charles awkward fit between eco- forts that permit people to ex- Tiebout’s seminal model on

APSA-CP Newsletter, Winter 2000 17 intergovernment competition, tional legal environment fa- ideas in all but the most tech- and it is necessary to produce vorable to business but is oth- nically unsophisticated areas. an equilibrium result with a erwise lacking in power. A state or local government large number of local govern- Part of this defense of fed- will not sponsor much re- ments. Otherwise if there is eralism is the claim that com- search since other communi- no congestion or, even worse, petitive state governments will ties will free ride on their in- if network effects and scale innovate to keep costs down novations. Furthermore, even economies mean that mar- and improve service quality. if they do try something new, ginal costs fall with popula- These innovations may show they will have no incentive to tion, a single government is the way to the states and to carry out a controlled experi- most efficient. Only differ- the federal government. This ment that will permit outsid- ences in tastes for public ser- is a widely accepted argu- ers to evaluate their efforts in vices or location could then ment, but it does not have a scientifically valid manner. explain why everyone does much credence on either logi- Thus although any system not cluster in a single jurisdic- cal or empirical grounds. Of with multiple sources of tion. Even if congestion sets course, states and localities power is likely to produce in for large population ag- do sometimes experiment some variation in outcomes, glomerations, people will with innovative ideas – alone should not rely heavily benefit from locating close to- though many of the examples on the “states as laboratories” gether in urban areas until the in the United States arose as argument as a defense of fed- costs of congestion outweigh a result of federal programs. eralism. the benefits of living near oth- Nevertheless, as a general ar- As a normative matter, ers. When network effects are gument for decentralization, some view the mobility of citi- important, the forces of inter- the innovation claim is weak zens and firms as a way to jurisdictional competition will and in conflict with other limit the opportunistic behav- be weakened. Governments claims. Thus if a nation is ior of politicians. The goal is that benefit from scale econo- very deeply divided along to make internal politics ir- mies can be inefficient and ethnic or religious lines, it relevant. Governments are corrupt without driving away seem unlikely that new pro- constrained by exit threats, their citizens. grams in one community will not political threats. This vi- Another type of interstate have much to teach those in sion of federalism is directly competition involves mobile other communities with very opposed to the defense of de- businesses seeking hospitable different values. A successful centralization that sees lower- investment environments. experiment in bilingual edu- level governments as more Once again, state politicians cation in Texas will not be of democratic and participatory are not to be trusted. Accord- much interest in Montana. A than other levels of governing to these models, the best new way of teaching girls in a ment. Under this latter view, government structure is a fed- community of Islamic funda- governments of small jurisdic- eral system where business mentalists will be of no inter- tions can be more account- uses its threat of exit at the est to a neighboring Christian able to their citizens than lar- state and local level to keep community. Even for less ger jurisdictions. This is partly taxes and regulatory costs ideological issues, such as because the services they pro- low. The central government trash collection or fire preven- vide are visible and of imme- limits protectionist activity by tion, local communities will diate concern to people – lo- the states and maintains a na- be unlikely sources of new cal roads, schools, water,

18 APSA-CP Newsletter, Winter 2000 trash collection. It is also be- people are either Christians a template for future scholar- cause the behavior of politi- or Muslims, not a little of ship, allowing manipulation of cians themselves can be each), or so long as the pro- the functional form to match monitored and more people duction functions for public specific case parameters. It of- can be induced to participate goods exhibit economies of fers a useful tool to comple- actively. The countervailing scale with respect to popula- ment our comparative skills as concern is capture. In small tion, mobility of people and we search for an understand- groups an economically pow- businesses will not necessarily ing of how federalism works. erful local individual or family produce efficient sorting. The Comparative political may be able to dominate po- central government will need study of federalism had its litical life especially in rural to take an active role both to heyday in the 1960s, at a areas with feudal histories. prevent self-dealing by state time when academics consid- The debate over the value of and local politicians and to ered constitutional design to decentralization in this con- prevent some regions from be a pressing policy interest, text is a classic example of Al- becoming backwaters inhab- and the management of frac- bert Hirschman’s distinction ited only by the poor and dis- tured, heterogeneous popula- between exit and voice. One advantaged. tions was foremost on their set of models stresses the con- list of prescriptive objectives. trol exercised by exit; another Studies by Duchacek, Franck, set stresses voice, but as Formal Theory and Friedrich, MacKinnon, Hirschman argues, ease of Federalism MacMahon, McWhinney, exit can undermine the role Riker, Sawer, and Wheare,1 of voice. In any particular fed- among others, searched for Jenna Bednar eral system political leaders common trends across fed- University of Michigan who respond to exit threats erations, to understand how email may find themselves in con- this constitutional form might flict with those constituents perform in the newly emerg- The recent onrush of for- who take the time and trouble ing countries of the develop- mal models of federalism was to monitor their behavior. ing world. Studying the prompted by political science’s Such tensions, of course, are United States, Grodzins renewed interest in the opera- not inevitable. Some cases (1966) and Elazar (1962) tion of federal systems. Formal may be overdetermined with were among the first to recog- theory is a microfoundational both citizens and mobile capi- nize that federalism implies a approach to comparative talists in favor of growth en- sharing of authority, Grodzins theoretical research, where hancing policies. classically likening federalism political phenomena are ex- To conclude, models of to a marble cake, and Elazar plained in terms of strategic decentralized political systems emphasizing the long history agents responding to an in- that emphasize sorting by of cooperation between U.S. centive environment. When preferences and group identi- state and federal govern- appropriately written, formal ties are in conflict with models ments. But the field never (mathematical) structure lays where interjurisdictional mo- produced generalized theo- bare the logical flow from as- bility is a response to differ- ries; for the most part, these sumption to result (and em- ences in governmental effi- works were collections of case pirical prediction). The con- ciency. So long as preference studies followed by insights, struction of a model provides groupings are lumpy (e.g. built inductively. Even Riker,

APSA-CP Newsletter, Winter 2000 19 who, concurrent with his institutions manipulate politi- Naturally, the fiscal feder- work on federalism, was most cal behavior by creating in- alism literature spawned the responsible for introducing centive environments that earliest formal political analy- the rational choice paradigm structure interaction between sis of federalism, and its de- to political science, never strategic agents. I divide the rivatives continue to be the married his two interests to literature roughly into two most active area of formal generate a rigorously derived categories: (1) federalism and federalism research. The Tie- theory of federalism’s origin policy evaluation, where fed- bout literature teaches us and maintenance. Interest in eralism is an independent about the importance of spill- developing a general theory variable – an institutional overs and mobility; works ty- fizzled as the field – perhaps context – that helps to deter- ing these challenges together impatient to convert the in- mine the success of policies with electoral politics and insights gleaned from the work chosen, or how they are cho- tergovernmental competition of the 1960s into specific pol- sen, and (2) federalism and include Epple and Zelenitz icy recommendations – stability, where federalism be- (1981), Gordon (1983), turned its attention to single- comes the dependent variable Caplan (1996a, 1996b), and country or single-region stud- as scholars investigate its fea- Dixit & Londregan (1995, ies of federalism, and only sibility and ways to maintain 1998). Several theorists have scattered contributions to or improve its operation. pointed out the advantages of general theory-building (e.g. interstate competition to pro- Elazar, Hicks, Lemco) ap- Federalism and Policy mote economic health; on the peared for the next two dec- Evaluation other hand, other theorists ades. As recently as five years point out the inefficiency cre- Politics of the early 1990s ago, when I would announce ated (rather than stemmed) promoted a resurgence in to friends in economics that I by intergovernmental (state to federal theory, with public de- study federalism, the reply in- state only) competition. Aran- bates about the merits of de- variably would be, “oh, fiscal son (1995) shows how the centralization and subsidiarity federalism?” While formal number of units in a federa- in the United States, Europe, theory may be new to politi- tion affects policy choice and and elsewhere, and global cal studies of federalism, at economic efficiency. events which alternately least since the 1950s econo- Formal theory is a good made us despondent about mists have been untangling choice of theoretical tool and hopeful for the prospect the knotty problems of taxa- when making comparisons of of a federal solution to the tion and redistribution posed the policy generated in fed- governance of diverse popu- by decentralization. Much of eral versus unitary states. lations. Positive political the- the work can be lumped to- Riker (1975) and Rose- ory offers a new approach to gether under the classification Ackerman (1981) explicitly general theory-building that of “Tiebout” models, named compare federal and unitary returns us to the origins of for Charles Tiebout, whose systems; Kollman, Miller and federal theory, to Publius, seminal 1956 contribution Page (1999) show that if and an examination of the demonstrated how mobile there are negative external- microfoundations of politics taxpayers might “vote with ities within the district, then working within a federal their feet” by choosing a juris- decentralized policy provision structure. Formal analysis fo- diction that best suits their is optimal, but if positive ex- cuses our attention on how preferences.2 ternalities exist, it can be

20 APSA-CP Newsletter, Winter 2000 beneficial to have a unitary most explicitly ties the prob- and accountability for action. system.3 In other work, the lem of optimal level of public Montinola, Qian, and Wein- comparison is only implied: good provision to politics by gast show how federalism for example, Crémer and Pal- arguing that politicians at dif- (“Chinese-style:” decentrali- frey (1999b) show how the ferent levels game one an- zation) has contributed to the federal system can contribute other, understanding that the economic success of China; to over-regulation, in light of public holds them responsible Qian and Roland (1998) ex- the preference of the national for success or failure. pand the study of China to median voter. We can also consider dif- examine the political costs Between-system policy ferent preference aggregation and benefits of bailouts; comparisons need not be mechanisms. Kollman, Miller, McKinnon (1994) warns that confined to federal v. unitary and Page (1997) compare the European Union must de- states: federalism does not voting rules to see which en- sign market-protecting feder- prescribe a specific degree of courages more optimal sort- alist institutions into its design centralization, but may be ing of citizens and therefore of monetary union; Weingast more or less centralized (or, more satisfactory locally- (1993) investigates how fed- in the spirit of Grodzins and provided policy. Persson and eralism contributed to growth Elazar, have jurisdictional Tabellini (1996a, 1996b) in the antebellum United overlap). Kollman, Miller, and evaluate the optimality and States; and Dick (1998) dem- Page (forthcoming) show that efficiency of policy generated onstrates the same in pre- as problems get more difficult under alternative federal con- Confederation Canada. to solve, the benefits of de- stitutional schemes. centralization initially in- Another literature exam- Federalism and Stability crease – exploiting states as ines the pattern of diffusion While the political litera- policy laboratories – and then and state government adop- ture (including my own work) decrease, due to the center’s tion of policy innovations in almost always thinks in terms greater efficiency at problem- federal systems. See, for ex- of federal stability, stability is solving. Panizza (1999), prob- ample, Walker (1969), Gray an elusive dependent vari- ing the effect of heterogene- (1973), and Case, Rosen, and able. For example, is Canada ous regional median voters, Hines (1993). stable? What about the ante- models (and tests) conditions, One particularly interest- bellum U.S.? The U.S. during such as lower per capita in- ing example of the partner- reconstruction? Better is to come and less ethnic faction- ship between economics and model feasibility, even while alization, under which voters political science is federalism writing of stability. Generally, would support greater fiscal as resolution to the economic the problem is, given a set of centralization. Crémer and problem of revenue- rules (a constitutional bar- Palfrey (1999a) show how generation. Weingast and col- gain), how do you get the the expressed preferences of laborators have introduced member governments to be- voters on degree of centraliza- the notion of “market- have? tion and the voting rule de- preserving” federalism, where We begin with the puzzle pends upon the size of the the decentralized system of federalism’s vulnerability. subunit, the number of sub- serves as a commitment While it is easy to recognize units, and the degree of het- mechanism to help the center the motivation to burden-shift erogeneity within and be- keep promises it makes re- and shirk, given the sacrifices tween units. Volden (1999) garding repayment of debt demanded by all federal un-

APSA-CP Newsletter, Winter 2000 21 ions, such behavior is de- together. tutions at constraining inter- structive to the union; there- As we identify the source governmental opportunism. fore, the question becomes: if of federal instability, our at- Ordeshook and Shvetsova a participating government tention turns naturally to an (1995) and Ordeshook (regional or central) could investigation of the types of (1996) argue that a strong, profit by the union, why institutions that might effec- decentralized party system is would it ever jeopardize the tively manage the problems critical for establishing incen- union by cheating? In gen- that all federations face. Cain tives for central and regional eral, opportunistic behavior and Dougherty (1997) and governments to cooperate requires some information Dougherty (forthcoming) use with one another; they find deficiency; for example, Bed- a collective action model to that the party system in Rus- nar (1998a) motivates central show how the faults of the Ar- sia lacks the necessary ingre- government encroachment ticles of Confederation meant dients to support federal sta- on regional jurisdictions by that cooperation could not be bility. highlighting the problem of sustained. Tsebelis (1995) Some theorists have credit assignment in multi- and Persson, Roland, and Ta- translated the mobile citizen layered governments. De Fi- bellini (1997) model the im- of the Tiebout models to the gueiredo and Weingast portance of separation of question of federal stability. If (1998) and Gibbons and Rut- powers and other veto citizens can sort themselves ten (1997) model “self- mechanisms to introduce sta- and exit, then so can jurisdic- enforcing” federalism, where bility through stagnation; tions. A natural combination the center can resolve bur- Bednar, Eskridge, and Fere- of the policy and stability lit- den-shifting tendencies be- john (1995) discuss two nec- eratures considers the motiva- tween regions, and its own essary conditions for the tion for secession. Buchanan tendencies to encroach are maintenance of federalism: and Faith (1987) model the kept in line by the collective fragmentation and adjudica- political-structural conse- effort of the regional govern- tion. Inman and Rubinfeld quences of taxation policy ments; Solnick (1998) probes (1997) compare two alterna- that might cause some units regional collective action tive constitutional objectives, to secede. Alesina and Spo- more deeply, discussing the showing a trade-off between laore (1997) find equilibrium conditions that support coor- economic efficiency and de- size and number of units in a dination versus self-interested mocratic values. Likewise union, arguing that the equi- behavior and collusion with Dougherty (1999) compares librium number of units in- the center to produce asym- several constitutional options creases in the degree of eco- metric treatment of regions. available to the American nomic integration; Piketty Bednar (1999) shows that founders and shows that the (1996) and Bolton and Ro- full-compliance equilibria ex- U.S. Constitution was not op- land (1997) model the trade- ist only under highly stylized timal in terms of economic off between the efficiency situations; generally, all fed- efficiency or protection of gain of unification and the erations will exhibit moderate state sovereignty, suggesting loss of autonomy. Chen and tension, creating pressure for that the Constitution was Ordeshook (1994) show that institutions to redefine their adopted with other, perhaps secession clauses are more roles to be managers of inher- strategic, goals in mind. Bed- than a “parchment barrier” ent tension, rather than trying nar (1998b) considers the ef- and can influence behavior. to eliminate opportunism al- fectiveness of imperfect insti- True to the spirit of

22 APSA-CP Newsletter, Winter 2000 Hirschman, if federal units of the greatest challenges 3. Their methodology allows can leave, then they have ahead of us as formal schol- for parameter manipula- power. Treisman (1999a) ars of federalism is to synthe- tion to weight the relative models the bargaining power size the two branches of the degree of decentralization, of recalcitrant regions in de- literature, to consider how but to simplify, they inter- manding asymmetric (and fa- policy efficiency and political pret their results in a fed- vorable) arrangements with feasibility are related. Works eral v. unitary context. the center; Treisman (1999b) that include an examination pairs regional bargaining and of an exit option come closest tax-evasion with the classic to the synthesis; I encourage Decentralization and Tiebout analysis of the power their pursuit. Questions of Hard Budget of mobile interests. Fearon when to decentralize, how, and Van Houten (1998) and to whom – questions Constraints model the electoral connec- regularly raised by the policy tion to regional autonomy literature – might not be best Jennie Litvack movements, and Van Houten answered by examining pol- World Bank (1998) searches for the icy efficiency, but instead Email causes of regional ambiva- ought to be informed by work lence toward fiscal autonomy. on political feasibility. In the Jonathan Rodden As the theory of regional future, I look forward to more Massachusetts Institute of autonomy movements devel- work that bridges the two Technology ops, we should look for re- trends in this growing litera- Email search that expands the tradi- ture. tional two-level conception of The issue of decentraliza- federalism to three levels. We Notes tion has been on the World generally assume that it is suf- 1. A bibliography of the Bank’s radar screen for dec- ficient to model two levels of works cited in this article ades, but it has become par- interaction; however, our as- is available at the News- ticularly pressing during the sumption is challenged by the letter’s website. The works past decade. Countries dynamics of the European selected are meant to be throughout the developing Union, where centralization indicative of trends in the world are increasingly devolv- and decentralization evolve field rather than to serve ing fiscal, political and admin- concurrently, as subnational as an exhaustive survey. istrative responsibilities to units are empowered by de- 2. I urge the interested lower levels of government velopmental fiscal transfers reader to consult Oates and to the private sector. In and the principle of subsidiar- (1999) and Inman and most parts of the world, de- ity. Rubinfeld (1996) for a re- centralization is being led by Both policy-related studies view of the economic lit- political reform and democra- and stability studies contrib- erature and especially to tization. Nevertheless, it may ute to questions of constitu- consult the bibliography have strong implications for tional design. What is effi- maintained at the World most aspects of the develop- cient – or even optimal – Bank’s website: http:// ment agenda, including deliv- from an economic viewpoint www1.worldbank.org/ ery of social services, building might not always be sustain- wbiep/decentralization/ of infrastructure, provision of able politically. I believe one Readings.htm. social safety nets, governance,

APSA-CP Newsletter, Winter 2000 23 privatization, financial sector vironment. Fiscal transpar- what conditions can decen- development and macroeco- ency, political accountability, tralization be dangerous for nomic stability. and factor mobility are often efficiency and macro stabil- In the 1980s and early very limited in developing ity?” An examination of this 90s, the World Bank and IMF countries, so “voice” and question points clearly to the focused mainly on the fiscal “exit” mechanisms (key to importance of a hard budget aspect of decentralization, successful decentralization) constraint for subnational and discussed intergovern- are often very weak.2 There is governments. Our study uses mental fiscal relations from a a growing realization that the theory and evidence from normative perspective. What institutional environment that around the world (case stud- should be the appropriate as- affects the underpinnings of ies from 4 industrialized and signment of expenditures and decentralization should be ex- 6 developing countries) to ex- revenues, how should inter- amined in each county, and plain why sub-national governmental transfers be de- policies designed accordingly. budget constraints are often signed, and what should be The implications of the “soft,” and to explore the the regime for subnational new approach can be seen in mechanisms through which borrowing? How would de- (1) a renewed research they might be “hardened” in centralization affect important agenda focusing on careful practice.3 development objectives? case studies as well as econo- When an entity such as a While there was general metric analysis, (2) a greater subnational government faces agreement that decentraliza- emphasis on consistent, com- a soft budget constraint, it tion could improve allocative prehensive approaches to de- means that it can explicitly or efficiency (i.e. provide ser- centralization rather than on implicitly pass on its liabilities vices that respond more sector driven projects, and (3) to other entities such as closely to local needs and a keen focus on the political higher-level governments. preferences), there was con- environment for decentraliza- This leads to a situation of siderable debate on the impli- tion including the institutions moral hazard in that it pro- cations of decentralization for that can support accountabil- vides incentives for subna- equity and macroeconomic ity. tional governments to, inter stability.1 alia, overspend, undertax, An Example: Hard Budget overborrow, underprovide An Evolving Approach to Constraints services, and accumulate ar- Decentralization During the past year, the rears through state enter- In the past few years, the Bank has undertaken a cross- prises, in the hope that local Bank’s approach to decen- country study of particular public expenditures will ulti- tralization has evolved con- concern to many ma- mately be subsidized by tax- siderably. Much of the litera- croeconomists at the Bank payers in other jurisdictions. ture – and underlying as- and the Fund – institutional Consider the case of an unex- sumptions – of decentraliza- arrangements for hard budget pected, adverse fiscal shock at tion draws from the experi- constraints. Whereas the de- the state or local level. Instead ence of industrialized coun- bate of the early 1990s fo- of implementing politically tries, particularly the United cused on “decentralization: painful expenditure cuts, local States, whereas the Bank’s good or bad for macroeco- politicians might choose not client countries operate in a nomic stability?” the current to adjust, even if this leads to very different institutional en- path of enquiry is “under a debt crisis, especially if their

24 APSA-CP Newsletter, Winter 2000 key constituents – voters, focuses on institutions and ac- access to credit will be limited creditors, and asset owners – countability. In particular, we if they don’t make sound fis- believe that local debt is ulti- look at institutions in two cal decisions. Second, local mately the responsibility of rather contradictory ways. On voters will face incentives to the central government. the one hand, fiscal and po- use electoral sanctions against One of the key goals of litical institutions should send profligate local officials. Third, our study is to explain why the clearest possible signal to markets for land and other the beliefs and payoffs of creditors, voters, and asset assets will supplement the these actors vary from one owners that the central gov- market for votes. Knowing country to another, and how ernment will not interfere in that local fiscal decisions di- they might be changed over the affairs of the subnational rectly affect their property val- time. For example, neither governments. On the other ues and rents, landowners are voters nor creditors expect hand, we find that in many likely to use “voice” to lobby discretionary bailouts in the countries, the best way to against imprudent debt levels. Canadian provinces and U.S. harden budget constraints in Moreover, owners of more states, even when they face the short term is for the cen- mobile assets might threaten serious unexpected shocks. tral government to get more to use the “exit” option. This has the beneficial effect involved in the regulation of The problem with these that lenders as well as the ju- subnational governments. market-like mechanisms, how- risdictions themselves keep The remainder of this article ever, is that they appear to debt to sound levels. On the draws from our study to ex- work well only when (1) the other hand, voters and credi- plain and then resolve this di- subnational governments tors in some of the German lemma. have a very high degree of fis- Laender, Argentine prov- cal autonomy, and (2) the inces, and Brazilian states Hard Budget Constraint central government has clearly have recently expected (and Mechanisms established the credibility of its received) bailouts when sub- The first and most basic commitment not to provide national governments faced “hard budget constraint bailouts. In our sample of sub- hard times. In Brazil, the in- mechanism” is a set of fiscal national government sectors, tergovernmental moral haz- and political institutions that only the U.S. states and Cana- ard problem has been espe- sends a clear message to local dian provinces clearly meet cially severe – expectations of governments that they alone these conditions. For most of bailouts have repeatedly been will bear the costs and bene- the cases, however, important confirmed throughout the last fits of their fiscal decisions. aspects of basic fiscal and po- decade, with serious implica- When this is the case, other litical institutions undermine tions for macroeconomic sta- actors – namely creditors, local accountability and mar- bility. voters, and asset owners – ket discipline. First, consider will get the message as well, the intergovernmental fiscal Institutions and Account- and three additional hard structure. When faced with a ability: A Dilemma budget constraint mecha- negative revenue shock, it is What explains these dif- nisms will come into play. relatively easy for local gov- ferences, and perhaps more First, the capital market will ernments to convince voters importantly, how can “soft” place firm constraints on local and creditors that the costs of budget constraints be fiscal decisions. Local govern- adjustment should fall on the “hardened”? Our approach ments will realize that their central government if 70 or

APSA-CP Newsletter, Winter 2000 25 80% of local government are much more likely to ex- the Brazilian states. revenue comes from grants or pect bailouts in systems with An important lesson of the shared revenue. In all of our decentralized, fragmented leg- case studies, however, is that developing country cases, and islatures and weak party disci- when local governments do many of our developed coun- pline. In such systems, the not have broad autonomy to try cases as well, state and lo- construction of legislative set and raise their own taxes, cal governments are heavily coalitions can be difficult, and and the central government reliant on revenue raised by or vote-trading is a common cannot fully commit to a no- regulated by higher levels of strategy. Such logrolling helps bailout policy, local account- government. Furthermore, in- explain why a central govern- ability and market discipline tergovernmental grants are of- ment would opt to provide are insufficient. This is usually ten distributed through proc- bailouts to certain states, even the case in new democracies esses that are highly discre- though the policy is socially and developing countries em- tionary, political, and unpre- inefficient for the federation barking on decentralization dictable, as in Brazil or as a whole. programs. In such cases, ad- Ukraine. In short, when fiscal and ditional hierarchical mecha- In some countries, like political institutions allow for nisms might be necessary for Brazil and India, hard budget the perception that bailouts hard budget constraints. For constraints are undermined are possible, local account- instance, the central govern- by the role of the central gov- ability relationships and capi- ment might put numerical ernment and its agencies as tal markets are unlikely to limitations on local deficits lenders to the states. In India, provide adequate constraints and debts, require that all or for example, the central gov- on the behavior of subna- a subset of debt issues be ernment has on occasion ar- tional officials. Voters and as- centrally approved, or stipu- bitrarily forgiven the debts of set owners face few incentives late that local governments the states. In some countries, to carefully oversee local fis- only issue debt for investment like Brazil, Argentina, and to cal decisions, and creditors purposes. Such mechanisms some extent even Germany, are more likely to evaluate have been used successfully states borrow from locally the creditworthiness of the at the local/municipal level in owned banks and public en- public sector as a whole, Norway, Hungary, and Can- terprises. This arrangement rather than that of individual ada. In fact, these were the undermines the independ- local governments. only cases of highly transfer- ence of lenders. In Brazil, this Obviously some of the is- dependent local public sectors led to the perception that sues mentioned thus far can that were not characterized by some states were “too big to and should be targets for re- serious local fiscal crises and fail,” because default would form. Indeed, some have al- bailouts. It appears that trans- threaten key state banks, ready been addressed. For fer-dependence and local whose “assets” consisted pri- example, state banks in Brazil borrowing autonomy might marily of bad debt of state and Argentina are being pri- be a dangerous combination.4 governments. vatized. Incentives for credit This returns us to our in- Consider also the organi- market oversight may be im- stitutional dilemma. Recall zation of the central govern- proving in Germany and In- our first argument about insti- ment’s political institutions in dia, and voters appear to be tutions—they should send a shaping the beliefs and strate- gaining greater control over clear signal that the central gies of the key actors. Actors fiscal outcomes in some of government will stay out of

26 APSA-CP Newsletter, Winter 2000 local affairs. Clearly this is not forms. Importantly, in that changes. Decentralization is compatible with blunt, cen- case, the central government neither good nor bad for allo- trally imposed borrowing re- had access to an enforcement cative efficiency, macro- strictions. Nor are such re- mechanism – it was able to stability, or growth. The costs strictions compatible with subtract debt repayments and benefits of decentraliza- most of the efficiency and ac- from intergovernmental tion in practice depend on countability advantages of grants. politics, the institutions of ac- decentralization. In sum, we find that local countability, and specific pol- Some of our case studies government accountability to icy decisions. Although we demonstrate, however, that voters, creditors, and asset cannot alter countries’ politi- rules and administrative struc- holders might be sufficient to cal institutions, we can pro- tures governing local spend- enforce hard budget con- vide advice with our eyes ing and borrowing need not straints in stable, mature de- open; certain political systems be blunt, and they need not centralized public sectors. In are more likely to engender rely on the discretion of the many new democracies and soft budget constraints and central government. In fact, it developing countries that are macroeconomic instability may be possible to implement rapidly decentralizing, how- than others unless certain rules that limit local auton- ever, hard budget con- regulatory mechanisms are omy and create disincentives straints – for the time being – adopted. Evidence from com- for opportunistic behavior, may require rules and incen- parative case studies and while making it clear that ulti- tives that restrain local bor- cross-national quantitative mately the costs and benefits rowing in the short term, but analysis can help us gain a of local fiscal decisions will be in the long term, send the better understanding of the borne locally. For example, message to local voters and determinants of soft budget Hungary has recently imple- creditors that local obligations constraints in order to assess mented local bankruptcy leg- are indeed local. As countries’ the policies that affect them. islation that largely removes experience with decentraliza- Such studies also help create the process from the political tion evolves, subnational gov- a useful set of comparative realm, relying instead on ernments can gain greater data about the political and courts and independent arbi- tax-raising autonomy and es- institutional conditions under trators. Even in cases where tablish credible track records which reform might be most bailouts are unavoidable, it of no bailouts. This will allow likely. may be possible to structure them to move along a contin- Finally, our discussion un- the bailout in a way that en- uum between hierarchical derscores a key theme of this courages improved local and market enforcement Newsletter. Decentralization is oversight and accountability mechanisms, gradually in- a topic that demonstrates the in the future. In fact, the Ar- creasing their reliance on the importance of collaboration gentine case shows that inter- latter. between comparative political governmental debt renegotia- scientists and economists. tion can be an opportunity for Conclusion Our study of hard budget major structural reform. In Ar- This article has outlined constraints demonstrates that gentina, the central govern- an evolution in the World political institutions and eco- ment was able to make debt Bank’s approach to decen- nomic outcomes are inti- renegotiation conditional on tralization, and discussed a mately related, and important the promulgation of key re- project that reflects these lessons run in both directions

APSA-CP Newsletter, Winter 2000 27 between the two fields. Micro- way (Jorn Rattso), the other hand, have been economics contains some ex- Ukraine (Sean O’Connell analyzing decentralization in tremely useful tools for the and Deborah Wetzel), and relationship to the drive to systematic study of compara- the United States (Robert shrink the state and increase tive politics. At the same time, Inman). economic efficiency. Both political institutions and in- 4. See also Jonathan Rod- strands of research reflect the centives are critical determi- den, “Federalism and Soft growing strength of state and nates of macroeconomic out- Budget Constraints,” Ph. local governments in Latin comes. D. dissertation, Yale Uni- America – a trend that has versity, 1999. been fuelled in new and old Notes democracies alike by constitu- 1. See Remy Prud’homme tional reforms extending elec- (1995), “The Dangers of The Political tions to lower levels of government as well as by policies of Decentralization,” The Economy of World Bank Research Ob- fiscal decentralization. server 10 (2), pp. 201-20; Decentralization in Like the literature on de- Charles E. McLure Jr. Latin America mocratization and economic (1995), “Comment on adjustment before it, the first Prud’homme,” The World Karen Remmer wave of research on decen- Bank Research Observer University of New Mexico tralization in Latin America fo- 10 (2), pp. 221-26. email cused on patterns of causa- 2. Jennie Litvack, Junaid tion, largely bracketing ques- Ahmad, and Richard Bird Erik Wibbels tions about consequences. The underlying presumption (1998), Rethinking De- University of New Mexico was that policies of decentrali- centralization in Develop- email zation would achieve their in- ing Countries, Sector tended effects, simultaneously Studies Series, World During the 1980s, schol- strengthening democratic gov- Bank. arly research on Latin Ameri- ernance and the efficient deliv- 3. Jonathan Rodden, Gun- can politics revolved around ery of public services. The nar Eskeland, and Jennie two major topics: democratic similarities with earlier bodies Litvack, eds. transitions and the political of literature are marked in (forthcoming), Decentrali- economy of stabilization and adjustment. The projection of other respects as well: the ini- zation and Hard Budget tial studies of decentralization Constraints. Cases and both these research concerns into the 1990s has led to an were descriptive, heavily reli- authors include Argentina ant upon case study or small-n (Steven Webb), Brazil explosion of literature on decentralization. For those con- analysis, and constructed (Jonathan Rodden), Can- around path-dependent ac- ada (Richard Bird and Al- verging on the topic from the study of democratization, cen- counts of political change. mos Tassonyi), China Their central insights revolve (Jing Jin and Feng-fu tral emphasis has been placed on the expansion of democ- around institutionalist under- Zou), Germany (Jonathan ratic legitimacy and participa- standings of the ways in which Rodden), Hungary tion to subnational levels of decentralized political agents (Deborah Wetzel and government. Students of stabi- and the party systems through Anita Papp), India lization and adjustment, on which they function have (William McCarten), Nor- shaped the dynamics and ex-

28 APSA-CP Newsletter, Winter 2000 tent of the decentralization centralization in the Latin sponsive and efficient public process. Where state and local American context has taken its sector – something desired by politicians are politically pow- bearings from the economic analysts with widely varying erful, decentralization is ex- literature on fiscal federalism, intellectual and normative pected to be more extensive these negative outcomes tend concerns. For what remains of than elsewhere because na- to be dismissed as anomalies the Latin American Left, for tional political leaders find it arising out of particular con- example, decentralization is more difficult to resist subna- textual conditions and/or defi- seen as a way of removing tional demands for resources cient institutional engineering power from historically repres- and political autonomy. Such rather than as expressions of sive and unresponsive central explanations may be less use- tensions inherent in the decen- governments, creating new ful in understanding decentralization process. opportunities for deepening tralization in nations tradition- Beginning with the work of democracy. For conservative ally characterized by strong Tiebout (1956) and Oates forces, its attractions revolve national political authority, (1972, 1977), the fiscal feder- around the possibilities for such as Chile, but they have alism literature is suffused with constraining the growth of tra- successfully underlined the im- normative assumptions about ditionally bloated public sec- portance of focusing upon the the capacity of decentraliza- tors in favor of the consolida- subnational or demand side of tion to enhance democratic tion of orthodox models of the decentralization process. accountability and foster pub- economic development. With the passage of time lic sector efficiency. First, de- Across Latin America, and the development of a centralization supposedly however, decentralization has more extensive body of helps to overcome aggregation failed to live up to its advance knowledge about state and lo- problems by bringing policy billing. The reason has less to cal governments in the region, decisions more closely into do with regional peculiarities research has begun shifting to line with citizen preferences, than with the fundamental the study of the consequences which may vary across regions contradictions between the de- of decentralization. The dra- or parts of the country. Sec- mocratic and economic logics matic, destructive, and re- ond, decentralization is as- of decentralization. A growing peated collision of state and sumed to offer solutions to body of evidence from the national political logics in Bra- agency problems by providing Brazilian and Argentine con- zil, in particular, has fostered a the electorate with mecha- texts, in particular, suggests widening recognition that de- nisms for disciplining local offi- that democratically elected centralization is considerably cials. The third major argu- subnational politicians operate more complicated than its pro- ment is that decentralization in accordance with incentives ponents have suggested. Nu- allows individuals and firms to that defeat the economic logic merous researchers have be- “vote with their feet” and of decentralization. Lacking gun to observe that decentrali- move to jurisdictions that offer electoral responsibility for na- zation can undermine eco- the most attractive package of tional macroeconomic per- nomic reform policies, exacer- taxes and services. The result- formance and insulated from bate regional inequalities, em- ing competition among juris- international economic pres- power local traditional elites, dictions is expected to con- sures, subnational politicians foster clientelism, and under- strain the growth of the public have every incentive to spend mine the delivery of public ser- sector and advance economic beyond their means and ex- vices. Nevertheless, because efficiency. The final outcome port the resulting costs to other most scholarly research on de- is presumed to be a more re- jurisdictions, thereby under-

APSA-CP Newsletter, Winter 2000 29 mining national efforts at eco- between nations constituted to develop a new positive the- nomic stabilization and adjust- on the basis of unitary and ory of federalism (or is it de- ment. These consequences federal structures. Federalism centralization?). have generated a growth of is an institutional arrangement An additional theoretical interest in institutional mecha- that establishes autonomous difficulty associated with the nisms that can harden budget bases of political power for foundation of most Latin constraints. Yet many of the subnational officials by consti- America research in the litera- suggested ways of limiting tutionally allocating policy re- ture on fiscal federalism is the state or provincial spending sponsibilities, seats in the na- lack of systematic interest in a impose serious constraints on tional legislature, and rights of pivotal question, qui bono? the choices of subnational self-rule to constituent territo- The fiscal federalism literature governments. To the extent rial units. Decentralization is a would have us believe that that the purported democratic process that involves the devo- everyone gains through de- benefits of decentralization de- lution of administrative func- centralization, but as E.E. pend upon the responsiveness tions to lower levels of govern- Schattschneider (1960, p. 12) of subnational politicians to ment. Hence while federal and observed four decades ago, local electorates, strong na- unitary states may both evince “Everywhere the trends to- tional controls on subnational high levels of administrative ward the privatization and so- policy choice represent an ob- decentralization, subnational cialization of conflict have vious problem for democratic officials in the latter cannot been disguised as tendencies accountability. The implication draw upon autonomous bases toward the centralization or is that increased political re- of power to advance their ca- decentralization, localization sponsiveness and more effi- reers. Decentralization may or nationalization of politics.” cient resource allocation do thus be expected to yield very The initiation of the drive to- not necessarily go hand in different results in federal and wards decentralization in au- hand. The failure of decen- nonfederal systems in accor- thoritarian Chile and the tralization researchers to ad- dance with the institutional in- “smoke and mirrors” character dress these theoretical issues centives and opportunities for of decentralization in Argen- suggests that researchers need subnational officials to pursue tina offer some clues to decen- to move beyond the biases of their political self-interest at tralization’s winners and los- the fiscal federalism literature the expense of national goals. ers. In both cases, the devolu- to explore the political and in- Certainly, the most serious col- tion of responsibilities to pro- stitutional variables shaping lisions between subnational vincial and local governments the behavior of politicians and and national interests in Latin has benefited central govern- conditioning the degree of America have occurred in ments by reducing their conflict between local and na- countries with federal systems. spending responsibilities and tional political interests. The failure of the literature to decentralizing political conflicts The neglect of institutional focus upon these and related with powerful public sector un- issues is reflected in the ongo- sets of institutional issues is ions. These advantages have ing conflation of decentraliza- not peculiar to the study of been achieved at the expense tion and federalism. By taking Latin America, but it does of growing geographical ine- their bearings from the eco- speak to the limitations of qualities, declining social ser- nomic literature on fiscal fed- scholarship constructed vices, and significant subna- eralism, students of decentrali- around economistic under- tional financial fragilities. zation in Latin America have standings of political out- These broad theoretical ignored the crucial distinction comes, including recent efforts shortcomings of the existing

30 APSA-CP Newsletter, Winter 2000 literature on decentralization in the region. will yield policies that more in Latin America are reflected Third, we lack the micro- closely reflect citizen demands in the limited empirical reach level empirical data necessary and interests. Given strong tra- of available research. First, the to assess the consequences of ditions of local clientelism bulk of existing literature ex- decentralization for democratic across the region, there is am- plores national patterns of de- accountability. The traditional ple reason to presume just the centralization on the basis of literature on fiscal federalism opposite. Indeed, until some case study or small-n research. presumes an informed and systematic body of evidence is Without a common theoretical mobile electorate. Voters are collected to suggest that sub- framework, however, individ- supposed to be knowledgeable national politicians in Latin ual case studies are unlikely to about the relative costs and America are any more in- add much to our current un- benefits of the local package of formed about or responsive to derstanding of decentraliza- taxes and services and to act citizen demands than their tion. Far more promising are accordingly, either by exercis- counterparts at the national research designs emphasizing ing the exit or voice option. In level, the most appropriate ap- systematic subnational com- the first instance, voters move proach to traditional argu- parisons, which would be ca- to jurisdictions offering tax and ments in favor of decentraliza- pable of addressing, rather service bundles that more tion would seen to be extreme than assuming away, pivotal closely reflect their prefer- skepticism. Decentralization questions regarding institu- ences. In the second, voters has become the última moda tional sources of variation in exercise the voice option and in the study of Latin American service delivery and political transmit their preferences to politics, but the rate of policy accountability. politicians. In either case, change has far outstripped our Second, although we have however, the benefits of de- understanding of either the learned a fair amount about centralization can only be determinants of the process or issues of intergovernmental achieved if citizens are in- its implications for democratic economic relations and other formed about the relative costs rule, economic performance, issues of interest to economists and benefits of services and or the distribution of political affiliated with international fi- can assign responsibility to the costs and benefits across soci- nancial institutions, we know appropriate level of govern- ety. very little about the politics of ment. To what extent are decentralization. How do inter- these assumptions met in con- References governmental politics, party temporary Latin America? The Oates, Wallace (1972), Fiscal structures, political career pat- question is of central impor- Federalism, Harcourt, terns, clientelistic networks, and tance for addressing the im- Brace, Jovanovich. interest group pressures shape pact of decentralization on de- Oates, Wallace E., ed. (1977), the causes and consequences mocratic accountability in a The Political Economy of of decentralization? Answers to political context characterized Fiscal Federalism, D.C. this question would not only by far lower levels of mobility Heath and Company. shed new light on the condi- and information than in the U. Schattschneider, E.E. (1960), tions under which decentraliza- S. The Semi-Sovereign Peo- tion may be expected to yield Finally, empirical research ple, Dryden Press. its theorized benefits, but also has yet to address the assump- Tiebout, C.M. (1956), “A Pure help to advance ongoing but tion that transferring new re- Theory of Local Expendi- increasingly sterile debates sponsibilities to subnational ture,” Journal of Political about the quality of democracy politicians in Latin America Economy 64, pp. 416-424.

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