Strategic directions for local public finance in developing countries

Fiscal decentralization and local government finance in developing countries have received considerable scholarly attention in recent years, particularly with respect to urban areas. A well-developed literature focuses on policy and institutional-design concerns driven by public finance/fiscal federalism and new public management principles (Bahl and Linn 1992; Shah 1994; Ter-Minassian 1997; Bird and Vaillancourt 1998; Litvack, Ahmad, and Bird 1998; Smoke 2001; Ahmad and Tanzi 2002; Ebel and Yilmaz 2002; Ebel and Taliercio 2005; World Bank 2005; Bardhan and Mookherjee 2006). Actual performance, however, has been weak in terms of both policy formulation and outcomes (weak local tax yields, wastage of intergovernmental transfers, and failure to obtain or repay loans). In addition, the dynamics underlying this disappointing performance have been poorly researched. Indeed, the current literature largely explains unsatisfactory outcomes as a result of problematic central design and management of intergovernmental fiscal structures, and the inability or lack of "political will" among local government officials to improve fiscal performance. This chapter argues that researchers have not sufficiently considered four aspects of fiscal reform: the politics of revenue generation, the use of incentives, capacity-building, and reform implementation. This oversight has constrained efforts to improve performance. This chapter analyzes the importance of these four aspects, provides some limited empirical evidence about them, and suggests a research agenda to advance a deeper understanding of local public finance issues in developing countries.