Countries structure their intergovernmental transfers in many different ways, depending on the objectives they wish to achieve and on how they decide to use expenditure and revenue assignments in their intergovernmental fiscal systems. The basic building blocks of the architecture of intergovernmental transfers are vertical sharing, which addresses the vertical fiscal imbalance in the system, and horizontal distribution, which addresses the reduction in fiscal disparities. The industrial countries reviewed in this volume do a good job with applying best international practices to produce reasonably efficient and equitable systems, but low- and middle-income countries are more burdened by resource constraints and weak databases to support their systems.
This chapter examines the economic impacts of horizontal fiscal equalization (HFE) as it is practised in Australia. It also discusses the benchmarking arrangements in place to ensure accountability between levels of government. The overall assessment finds Australia’s comprehensive approach to HFE is functioning reasonably well. It achieves a high degree of fiscal equality, the institutional arrangements and processes for determining the goods and services tax (GST) distribution are robust and independent and provide a degree of predictability for state budgets. However, there are deficiencies which have recently become particularly pronounced. The HFE system is not policy neutral, notably for major tax reform and the efficient taxation and extraction of some mineral and energy resources. Too little weight is afforded to the importance of fairly rewarding effort and the system’s fiendishly complex methodology is poorly understood, and risks undermining accountability for decisions and public confidence in the system.
The chapter evaluates possible options for reforming the Indian transfer system in the context of lessons learnt internationally from large federations. In the light of the international experience the chapter explores several issues which can help graduate India’s federal setup towards a mature federal system like that of Australia, Canada and several such countries including the OECD countries. India’s federal system in the last few decades has tried to evolve despite challenges. However, there have been several developments that have strengthened the argument that the Indian system can progress towards a more advanced federal system only if it carefully calibrates and modernizes its devolution formula as well as estimation and forecasting procedures. In addition, it needs to identify and separate devolution and redistribution objectives from tax sharing with the states, be selective in specific purpose transfers and consolidate them for better outcomes, consider the wider use of performance-based grants and increase the effectiveness of conditional transfers by carrying out an in-depth evaluation of the most important centrally sponsored schemes.
India is the largest democratic federal polity in the world, with over a billion people. The key institutional arrangement that guides the sharing of resources between the various levels of government in India is entrusted to the Finance Commission. The Finance Commission determines a large part of the transfers in the form of tax devolution under global sharing and grants, requiring it to determine a significant part of the volume of the vertical transfers. The importance of Finance Commissions in India not only lies in shaping and recalibrating the Indian federalism from time to time but also in providing continuity that has been critical to the unity of the country. Since 1951, there have been 14 such Finance Commissions in India, the Fifteenth Finance Commission was constituted in 2017. Over the years the core mandate of the Commission has remained unchanged, though it has been given the additional responsibility of examining various issues depending on the challenges faced by Indian public finances from time to time. The history of Indian federalism is one of gradualism, resilience and change with continuity. In this backdrop, the various Finance Commissions have played an important role of serving as a glue in balancing the intergovernmental relationships and fiscal transfers in a multilevel government system for ensuring provision of public services to over a billion people. The India case presents an interesting transition from a market preserving federalism towards laboratory federalism in the light of the recommendations made by the Fourteenth Finance Commission.
Marcelin Joanis and François Vaillancourt
This chapter presents the key aspects of Canadian fiscal federalism with particular attention given to the treatment of natural resource rents. The case of Canada is of interest to scholars given that it is one of the oldest federations with important vertical and horizontal fiscal imbalance. The chapter is divided into three parts. The first one presents briefly the Canadian provinces in terms of their demography and economy. It then presents in some detail the key transfers in place. The second part presents the debate on fiscal imbalance that occurred in the first decade of this century. The third part focuses on three natural resource issues in Canada: the treatment of natural resource rents – earned (petroleum and gas) and dissipated (hydro rent) – in equalization; the debates around the building of pipelines; and the interaction between federal carbon taxation and provincial carbon policies (cap and trade, regulation, taxation).
Edited by Serdar Yilmaz and Farah Zahir
Paul B. Spahn
The German federation possesses three levels of government: the federation, the states and local governments. Each level of government is autonomous as to their expenditures of the budget, and administrative responsibilities for financing each respective outlay function are linked – with some exceptions. However, lower tiers of government possess practically no significant own taxes – except for some local taxes. Tax legislation is uniform throughout the nation. In matters of taxation the states can only co-decide conjointly with the federal parliament (Bundestag) through their second chamber (Bundesrat) whose members are not elected but representatives of state governments. Although the German equalization system is under continuous political stress and is criticized as being overly generous, with negative incentive effects, it is unlikely to change significantly given the institutional setup where the majority of states are at the receiving end of the scheme. The pending reform of 2020 has brought about only marginal changes.
This chapter examines intergovernmental fiscal relations as it is practised in Australia. It discusses the level of vertical fiscal imbalance (VFI) and how that has increased over time, and the mechanisms through which VFI is overcome. It also shows how those mechanisms have reduced the autonomy of the states and how this has resulted largely from Commonwealth government actions and a single clause in the Australian Constitution. The system of achieving horizontal fiscal equality for the states is described, as are the changes to that system since the late 1970s. The administrative structures within which intergovernmental fiscal relations operates are outlined. In each of these discussions, areas where further change might be considered are identified. It is concluded, however, that major change is unlikely in the foreseeable future.
Marco Larizza and Julian Folgar
Argentina is a very unequal federation, with areas as rich as developed nations, and provinces as poor as low middle-income countries. The 1853 Constitution grants a substantial degree of policymaking authority to the provinces, but responsibilities are not always clearly defined. Consequently, Argentina experienced complex and conflictive relationships across levels of government during most of its history. The evolution of its intergovernmental transfer system has not been driven by coherent policy decisions grounded in equity and efficiency considerations, rather it is the outcome of emergency measures taken to address macro-fiscal and financial crises originated at the federal level, and the by-product of the changing power relationships between the federal governments and provincial governors. The result of this historical process is a fiscal transfer system that falls short in effectively addressing both vertical and horizontal imbalances.
Deborah L. Wetzel and Lorena Viñuela
Over the decades, Brazil has undergone several cycles of centralization and decentralization. The choice of a federal design can be traced to the need to mitigate centrifugal forces and threats to territorial integrity that have been present since colonial times. Alternating civil and military governments changed the distribution of authority across levels of government, but states have always played a strong role in the provision of all basic services and collecting their own revenues. Brazil’s large and complex structure of government, combined with a highly fragmented political system, has generated a complex system of tax sharing and fiscal transfers. This chapter provides an overview of Brazil’s system of intergovernmental transfers and three cases of performance-based transfers: the Bolsa Família programme, which provides cash payments directly to beneficiaries for social protection programmes with the support of municipalities, and the performance-based transfers from the Ceará and Rio de Janeiro states to municipalities in the education and health sector respectively.