THE ELEMENTS OF FISCAL DECENTRALISATION

By Erny Murniasih

The shift from a centralised planning to a decentralised government system has been a widespread trend in many countries during the 1980s. There are many motives of why these countries have engaged in decentralisation: to stimulate economic growth, reduce urban-rural disparities, deepen democracy, and encourage civil society at the local level.

In principle, there are three varieties of decentralisation that can be distinguished corresponding to the degree of independent decision-making exercised at the local level: de-concentration, delegation, or devolution (Bird and Vaillancourt, 1999). To ensure that local governments have sufficient funding, the principle of ‘finance follows function’ should be in place. In such way, the set of functions are assigned to local governments with an adequately designated own source revenues and intergovernmental transfers.

In fiscal decentralisation program, there are key elements that should be applied according to public finance experts:
1. An appropriate set of functions for subnational governments. This element is supposed to address the question of ‘who does what?’ and ‘what are the functions and expenditure responsibilities of each level of government?’
2. An appropriate revenue-resource responsibilities. This element provides allowance for sub-national governments to levy taxes and charges.
3. A well-designed intergovernmental fiscal transfer system. Transfers are needed where vertical and horizontal imbalances persist and when there is problem of inter-jurisdiction spill over effect or externalities. Transfers can be formulated in some cases, depending on the purpose. They can be in the form of unconditional and/or conditional grants. The principle is that transfers should be sufficient to ensure that sub-national governments can afford to implement the decentralisation of functions.
4. An adequate access to develop capital. Access to development capital is vital to accelerate development, generating increased local revenues (Devas, 2006). This gives sub-national governments alternatives in financing their expenditures, particularly capital investment, in respect of functions assigned by central government. However, since borrowing could create problems for overall macroeconomic stability, experts in public finance advocate setting limits for local borrowing.
5. An adequate enabling environment for fiscal decentralisation. Substantial political is required to enable governments to establish constitutional and legal mandates for fiscal decentralisation and so to develop a strong foundation for fiscal decentralisation (Smoke, 2001). Even though such an internal driving-force does not guarantee successful fiscal decentralisation, there has to be substantial driving force to ensure a strong commitment to implementing the system.