Intergovernmental Fiscal Transfers and Local Incentives and Responses: The Case of Indonesia

Abstract

Indonesian policymakers are convinced that a number of perverse incentives are embedded in their system of intergovernmental transfers. Officials in countries throughout the developing world have similar views about their own intergovernmental frameworks. In Indonesia, perverse incentives are thought to negatively influence a wide range of local government fiscal behaviours, including as regards own-source revenues, spending, and savings. An empirical analysis of the local government response to transfers, however, offers only mixed support for the existence and strength of the presumed incentives. Intergovernmental transfers, either in the aggregate or individually, do not appear to have a deleterious impact on local own-source revenue generation. Overall the findings in this paper highlight the benefits to central governments of rigorously examining assumed perverse incentives in their intergovernmental frameworks before embarking on attempts to expunge them.

¿Pueden las transferencias federales afectar el esfuerzo fiscal, la transparencia y la rendición de cuentas de los gobiernos locales? México 2003-2013

“…En total, sin distinguir por nivel de desarrollo, encontramos que las participaciones impactan negativamente la generación de ingresos propios y la transparencia en conjunto. En este sentido, las participaciones ejercen incentivos perversos en línea con lo reportado por Lewis y Smoke (2017). Sin embargo, las participaciones también alientan la rendición de cuentas asociadas a la condición de finanzas públicas locales.…”

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“…The relationship between the major subnational tiers of government, particularly the provinces and districts, also remains ill‐defined. These problems arise from incoherent incentives and frequent modification of the regulations governing fiscal flows and expenditure responsibilities (Lewis & Smoke, ).…”

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“…They also allow the central government to use different formulas to promote specific policies in particular areas, such as education grants based on the number of school‐age children in an area or health grants based on the population of an area or on its health characteristics (Schroeder & Smoke, ). It is also argued that central governments can use formula‐based grants to induce sound fiscal performance in local governments, such as increased revenue mobilisation (Lewis & Smoke, ). Cost‐reimbursement transfers fully or partially reimburse local governments for expenditures on specific activities (Bahl & Linn, ). The choice of full or partial reimbursement can affect local fiscal performance.…”