6 transparency and non-predictability in budget relations between regional and municipal governments, more decentralized regions would have less fiscal discipline and higher budget deficits. On the other side, in the Russian environment, individual local governments have less access to capital markets than regional ones because municipalities have less control over their revenue flow and thus are considered by creditors as more risky. So far, most of subnational debt and deficit in Russia was concentrated at the regional level, which to large extent reflects restricted opportunities of local governments to attract deficit financing (World Bank, 1998). Also, decentralization, by reducing the size of regional governments, effectively limits their opportunities to borrow relatively to the size of the consolidated regional budget. Thus, one may expect that more decentralized fiscal systems, in which local governments control a relatively larger portion of total budget, would carry less debt and deficit.

# 4. Main trends in fiscal decentralization, 1992-96

The legal framework for local decentralization is provided by several federal laws that in general give regional legislature almost unlimited power for sharing fiscal resources with municipalities (Lavrov, 1996a; Yandiev, 1997). There are two primary channels for decentralization of budget funds: tax sharing and regional budget transfer program (World Bank, 1998). Under current arrangements, the shares of shared taxes that each local budget receives are negotiated annually -- or sometimes several times a year - - between the local and regional governments. As mentioned above, the shares tend to be differentiated sharply across municipalities.

A specific feature of fiscal decentralization in Russia relates to a very limited role of local taxes in subnational budgets. The lion's share, about 75%, of all subnational tax revenues derives from four major federal taxes that are shared on a derivation basis and neither regional nor local governments have leverage regarding tax rates and tax bases of these taxes. Conflicts related to intra-regional allocation of subnational shares of main tax between regional and municipal governments constitute a center part of the whole budget preparation process. Local governments have very limited room for collecting more revenues through additional taxation. In 1996-97, the single largest local tax - tax on upkeep of social assets - amounted to 7-10% of total budget revenues in cities that have used it actively. However, the draft Tax Code provides for elimination of this tax (together with other similar taxes levied on gross turnover). At the same time, insufficient discretion of local governments over their tax sources does generate lack of accountability: local leaders may always argue that higher levels of government deprive them from any instruments to increase revenues and thus improve service delivery. For local governments in areas of potential economic growth, the expectation of punitive extraction by the regional government creates incentives to keep their budget revenues hidden.

Anecdotal evidence suggests that the reported numbers on the size of municipal budgets may exaggerate the actual degree of regional decentralization. This caveat is important for adequate interpretation of the data that follow. Various expenditures could be nominally funded from local budgets while decisions on their allocation may be made at the regional level, with municipalities merely executing regional government decisions. Some regions have recently recentralized some types of expenditures, such as infrastructure investments.

At least among regions, which are recipients of large amounts of federal transfers, regional authorities have much control over the revenue and expenditure patterns of municipal governments. The widespread use of non-cash schemes for budget execution further supports such a trend toward greater regional control since schemes of mutual settlements enjoy significant economies of scale. However, this trend is balanced to some extent with strengthening of practice of local elections and establishment of structures of local-self government, which feel sufficient popular support to stand regional pressures.