_4 On the Dangers of Decentralization_

# **Decentralization of What?**

1.15 Third, the 3tion of powers given to the central government and the subnational governments is inultidiniensional. The two most common dimensions are taxation and expenditures. The most frequently used indicators of the state of decentralization are the _tax decentralization ratio_ (subnational government axes relative to total government taxes) and the _expenditure decentralization ratio_ (subnational governmen, expenditures relative to total government expenditures).

1.16 In addition to the nower to _spend_ and the power to tax, other important attributes of sovereignty are the power . _'_ i _0rrow_ and the power to _regulate._ The power to contract, or the power to change. or the power to ovjn, can be seen as combinations of the four basic attributes mentioned.

1.17 The powers to tax and to spend are full of ambiguities. Expenditures and tax decentralization ratios are equally hard to define because the notions of subnational expenditures and subnational taxes are not clear.

1.18 Take expenditures decentralization. Not all expenditures by local governments are fully controlled by local governments. In man! countries, the visible hand of the central government is dictating, controlling, influencing, or restricting Ci.e freedom of local governments in their expenditures behavior. Establishing a typology of these manifold constraints would be a useful exercise (see W-rld Bank 1992b for a first attempt at listing discretion-reducing practices utilized in Russia).

1.19 Another useful exercise would be to estimate what could be called a "discretion coefficient." The "apparrnt" expenditure decentralization ratio (i.e., the one most often used and quoted) would be multiplied by the coefficient to arrive at a "true" expenditure decentralization ratio. France, for instance, is much less centralized today than it was 15 years ago. But the change is poorly reflected by the evolution of expenditures decentralization ratios that may have moved from 16 percent to 19 percent. A better assessment of what happened would be to say that decentralization in France increased from 9.6 percent to 17.1 percent. Similarly, in comparing France and Italy today, it is customary to quote the apparent rates of expenditure decentralization, which are 19 percent and 30 percent respectively, and to conclude that Italy is much more decentralized than France. But it can be argued that the discretion coefil-ient is 90 percent in France and only 50 percent in Italy, and that the true expenditure decentralization ratios are respectively 17.1 percent and 15 percent, so that Italy is less decentralized than France.

1.20 A similar story can be told about tax decentralization ratios. At least five criteria can be use,d to define the "localness" of a tax: (1) who chooses the tax base; (2) who assesses the tax base; j3) who decides the rate(s) of the tax; (4) who collects the tax; and (5) who gets the proceeds of the tax. If the answer to these f;ve questions is the subnational government, then no doubt the tax is a local tax. But this is rarely the case. Although there is no general agreement on this issue, nany people would agree that the third criterion, rate setting, and of co} rse the fifth, allocation, **are** more important than others. If only taxes, the rates of which are decided freely by local goverunents, were considered local taxes, tax decentralization ratios published in many international documents would decline significantly. In particular, the subnational share of "shared taxes" (taxes with rates decided by national governments, such as the German income tax for instance) would be considered transfers, not local taxes. Even this criterion would be difficult to apply. In some countries, where