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Sub-national fiscal autonomy-the basis for fiscal federalism in modern federations-is meant to serve two roles. First, local control over revenue collection is meant to provide a check on the capacity of central authorities to tax arbitrarily local capital. Second, retention of taxes raised locally is meant to establish incentives for sub-national governmental authorities to foster endemic economic growth as a way of promoting local tax bases. In the Russian Federation, however, fiscally autonomous regions have often resisted market-oriented reforms, the enactment of rule protecting private property, and the dismantling of price controls and barriers to trade. This paper finds statistical evidence in support of the hypothesis that fiscal incentives of the Russian regions represent an important determinant of regional economic performance. Moreover, it seeks to understand the conditions under which fiscal autonomy prompts regional growth and recovery, and the conditions under which it has adverse economic effects. The paper argues that the presence of "unearned" income streams-particularly in the form of revenues from natural resource production or from budgetary transfers from the central government-has turned regions dependent on these income sources into "rentier" regions. As such, governments in these regions have used local control over revenues and expenditures to shelter certain firms (natural resource producers or loss-making enterprises) from market forces. Using new fiscal data from 80 Russian regions during the period 1996-1999, we test this central hypothesis in both single-and simultaneous-equation specifications. Our results indicate that tax retention (as a proxy for fiscal autonomy) has a positive effect on the cumulative output recovery of regions since the break-up of the Soviet Union. We also find, however, that this effect decreases as rentable income streams to regions increase.1

Russia and other countries in the Commonwealth of Independent States that have implemented voucher privatization programs have to account for the puzzling behavior of insiders-manager-owners-who, in stripping assets from the firms they own, appear to be stealing from one pocket to fill the other. This article suggests that asset stripping and the absence of restructuring result from interactions between insiders and subnational governments in a particular property rights regime, in which the ability to realize value is limited by uncertainty and illiquidity. As the central institutions that govern the Russian economy have ceded their powers to the provinces, regional and local governments have imposed a variety of distortions on enterprises to protect local employment. To disentangle these vicious circles of control, this articles considers three sets of institutional changes: adjustments to the system of fiscal federalism by which subnational governments would be allowed to retain tax revenues generated locally; legal improvements in the protection of property rights; and the provision of mechanisms for restructuring and ownership transformation in insider-dominated firms. The aim of these reforms would be to change the incentives that local governments, owners, and investors face; to convince subnational governments that a more sustainable way of protecting employment lies in protecting local investment; to raise the cost of theft and corruption by insiders and local officials; and to allow investors to acquire controlling stakes in viable firms. Russia implemented real sector reforms-including the privatization of 15,000 enterprises through vouchers-with the goal of making the transition to the market credible, irreversible, and rapid. The objective of the mass privatization program was to establish a critical mass of profit-seeking corporations that were no longer dependent on state support for their survival, and a class of owners willing to invest in their enterprises and manage their restructuring. However, the mass privatization program has brought few tangible benefits to enterprises privatized in voucher auctions.

How can one account for the puzzling behavior of firms' taxable cash f ows will have been reduced through insider-managers who, in stripping assets from the very cash flow diversion, have responded by collecting firms they own, appear to be stealing from one pocket to revenues in kind. fill the other?To disentangle these vicious circles of control, Desai Desai and Goldberg suggest that such asset-stripping and Goldberg propcse a pilot for transforming and failure to restructure are the consequences of ownership in insidet-dominated firms through a system interactions between insiders (manager-owners) and of simultaneous tax-debt-for-equity conversion and regional governments in a particular property rights resale through competitive auctions. regime. In this regime, the ability to realize value isThe objective: to show regional governments, by limited by uncertainty and illiquidity, so managers have example, that a more sustainable way to protect little incentive to increase value. As the central employment is to give managers incentives to increase institutions that rule Russia have ceded their powers to enterprises' value by transferring effective control to the regions, regional governments have imposed various investors. distortions on enterprises to protect local employment.The proposed mechanism would provide cash benefits Prospective outsider-investors doubt they can acquire to insiders who agree to sell control to outside investors. the control rights they need for restructuring firms andThe increased cash ievenue (rather than in-kind or doubt they can avoid the distortions regional money surrogates) would enable regional governments to governments impose on the firms in which they might finance safety nets for the unemployed and to promote invest. The result: little restructuring and little new other regional initia:ives. investment. And regional governments, knowing the This papera product of the Private and Financial Sectors Development Unit, Europe and Central Asia Regionis part of a larger effort in the region to address growth, governance, and poverty in the former Soviet Union. Copies of the paper are available free from the World Bank,

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