The Impact of Intergovernmental Grants on Cost Efficiency: Theory and Evidence from German Municipalities

Abstract

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Vertical Grants and Local Public Efficiency: The Inference-disturbing Effect of Fiscal Equalization

“…Moe, 1997;Wintrobe, 1997;Mueller, 2004, chapter 16 Niskanen (1971) in assuming an extremely strong position for the bureaucrat: He can make a "take it or leave it"-offer dictating both the budget and the quantity of public services. Kalb (2010) builds on an argument by Moesen and van Cauwenberge (2000), according to which a soft budget constraint promotes fiscal illusion, that is it makes voters underestimate the tax price of public services. Applying this argument to local public sector production, he argues that vertical grants lead voters to underestimate the tax price of public services and thus accept higher amounts of public services and larger budgets than they would without grants.…”

“…Most papers are empirical contributions that do not provide theoretical models to derive their central hypothesis. Kalb (2010) is an exception in this respect. He adapts the model on fiscal illusion and bureaucratic power by Moesen and van Cauwenberge (2000) and shows that vertical grants reduce local efficiency.…”

“…Kalb (2010) finds negative effects on cost efficiency caused by the German local government fiscal equalization grants in Germany (BadenWürttemberg). Balaguer-Coll et al (2007) and Balguer-Coll and Prior (2009) report a significantly negative effect of current grants from higher levels of government on the technical efficiency of Spanish (Valencian) municipalities.…”

“…First, we provide a simple, alternative model to analyze the interaction of voters and their local public administration. We introduce this model to show that, contrary to the model by Kalb (2010), we do not need to assume fiscal illusion to arrive at the conclusion that vertical grants have a negative impact on public sector efficiency.…”

Financial Effectiveness of Greek Municipalities: An Empirical Investigation

“…In further studies, Athanassopoulos, Triantis, and Schmidt (1998);Balaguer-Coll, Prior, and Tortosa-Ausina (2007); De Borger and Kerstens (1996); and Loikkanen and Susiluoto (2005) analyzed the general determinants of local governments' cost efficiency in Greece, Spain, Belgium, and Finland-using different parametric and non-parametric estimation techniques. They all came to the conclusion that (intergovernmental) grants stimulate technical or cost inefficiency (Kalb, 2010). Moreover, the increase in slack costs due to Municipality amalgamation, which is pushed forward in several countries to achieve economies of scale, is examined.…”