communities to recoup revenues to provide residential services. The real property tax is currently being devolved to local governments as it is truly a local tax – a tax on immobile base with local governments having better information and also as a benefit tax for local services. However, it may be advisable to devolve this tax fully to urban local governments only and in the interest of tax base harmonization and considering capacity constraints of rural local governments, central determination of tax base and tax collection may be retained while devolving responsibility for tax rate determination to rural local governments.

# **Box 1.  Sharing of Natural Resource Revenues: What is ideal is often not politically feasible.**

- Ideal: All net oil and gas revenues are deposited in a heritage trust fund (Norwegian style) owned by all citizens regardless of their place of residence. The assets of this fund are held in perpetuity and could not be drawn down but capital income will be available for current use. All citizens hold equal shares in the trust fund and every citizen receives an annual dividend from this income and a fraction of income is distributed to governments.

- Second best solution: Centralization of resource rent taxes redistributed through a central fiscal equalization program. Or alternately decentralization of resource rent taxes accompanied by interprovincial net equalization program where rich provinces contribute to the pool and poorer provinces receive payments from the pool.

- Source: Boadway and Shah (2009) and Bishop and Shah (2011)

Sharing of resource revenues represents a difficult challenge in any multi-order governance whether unitary or federal. Political cohesion and environmental protection consideration require preferential access of resource revenues to producing regions. Economic and social union require national ownership and sharing of resource wealth. A decentralized resource rent tax regime creates both fiscal inefficiencies and inequities. Fiscal inefficiency is created by mobility of labor and capital to capture resource rents accruing to the resource rich jurisdiction and fiscal inequity arises from citizens of a country being treated differently under the fiscal system depending upon their place of residence. Of course royalties, fees, severance, production, output and property taxes related to resources and conservation charges can be suitably devolved to state and local governments to enable them to provide services for resource exploitation and environmental conservation.

Natural resources in Indonesia according to an interpretation of articles 18 and 33 of the Indonesian Constitution should belong to the nation as a whole. However article 18 A (2) gives some flexibility to the GOI to institute revenue sharing arrangements for natural resource revenues (see Box 2). Recognizing this, sharing of natural resources revenues especially oil and gas revenues in Indonesia responds to long felt grievances of resource rich jurisdictions that they bear only costs of such exploitation and benefits accrue to the central government only. Current tax sharing arrangement try to tread a middle ground in addressing the concerns of the producing provinces and the national equity objectives. However, as will be observed in the next section, DAU - the gap filling transfer mostly (95% in 2011) nullifies the gains of producing provinces and partially (63%) nullifies the same for the producing districts as their entitlements for central gap filling transfer is reduced by inclusion of the stated percentage of revenues as part of the fiscal capacity.

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