Equalisation of territorial units and incomes: case study of Nordic, Central European and Southern countries

Abstract

The last two decades witnessed an ongoing trend towards fiscal decentralisation in Europe – sub-central governments have been given more responsibilities and greater shares in public spending (Bloechliger & Vammalle 2012). The policy of decentralisation brings with it a promise of increased efficiency in terms of service provision and resource allocation on local and regional levels. The often unwanted consequence of decentralisation is that growing taxing powers and financial autonomies given to territorial units are accompanied by growing disparities in terms of wealth and/or income distribution between local governments. Hence the need for fiscal equalisation appears. The overriding objective of fiscal equalisation is to correct imbalances in fiscal capacity of territorial units resulting from sub-central autonomy and differentiation in terms of tax bases and to allow local and regional governments to provide their citizens with services of comparable quality and quantity. A recent study across eighteen countries (Australia, Austria, Canada, Denmark, Finland, Germany, Greece, Italy, Japan, Mexico, Norway, Poland, Portugal, Spain, Sweden, Switzerland, Turkey, and United Kingdom) showed that fiscal equalisation involves transfers varying from 0.5% to 3.8% of GDP (Bloechliger, Merk, Charbit, Mizell 2007).Depending on specific arrangements, equalisation mechanisms may be in line with the chosen policy for development, supporting either territorially balanced development or placing emphasis on development engines. This paper builds on notions of fiscal federalism and fiscal equalisation to give a better view of approaches to income equalisation between territorial units in six European countries. Countries chosen for comparison within the framework of this paper are different in terms of geographical location, size, levels of socio-economic development and adopted local government systems. The major criterion for choosing case study countries was their geographical location, as it is the authors’ intention to highlight differences in approach to fiscal equalisation between the Nordic countries (Finland and Sweden), Central European countries (Poland and Hungary), and the Mediterranean countries (Greece and Portugal). The hypothesis which is put forward and tested by the research team is as follows: The attitudes and approaches towards fiscal equalisation between local governments in: (1) the Nordic countries, (2) the Central European countries and (3) the Mediterranean countries differ significantly, reflecting cultural differences and different economic conditions in these countries. Specifically, the following sub-hypotheses are put forward and tested: + higher level of socio-economic development tends to favour stronger equalisation policy and mechanisms between local governments; + countries where local governments participate to a greater degree in public sector expenditures require far stronger equalisation mechanisms. The hypotheses are backed up by reasonable expectation that the extent of horizontal equity pursued in each country is based on value judgments of political actors in power. There might also be efficiency motives for equalisation grants (King 1984, 140-146). The first sub-hypothesis may be justified by the need of developing countries to favour rapid growth and encourage people to move from low productivity areas to highly productive areas, resulting with strategies favouring development engines and cautious with regards to high levels of redistribution (i.e. by means of equalisation grants to local governments in lagging areas). Respectively the more developed countries tend to emphasise equality at the expense of a lower growth rate and tend to favour stronger equalisation policy and mechanisms between local governments. The second sub-hypothesis is a natural anticipation that big volumes of local government activities lead rather to big than low volumes of equalisation of local government expenditures. The paper starts with snap-shot descriptions of countries chosen for analysis. Country backgrounds present situation in terms of socio-economic development, inequality in terms of personal wealth distribution and approaches to equalisation of personal incomes in respective 3 countries. Each country’s background also includes basic information on administrative division, scope of tasks performed by local governments, general structure of local government incomes and level of local government expenditure relative to GDP or central government spending. The second part of the paper is devoted to describing in more detail the grant systems and income equalisation mechanisms applied in all six case study countries. The final, third, part of the paper presents examples of how equalising measures work in relation to selected local governments which provide an overview of local governments of different income level prior to equalisation. This part then leads to conclusions, revisiting the hypotheses formulated above. The conclusions described in the paper are of a tentative character, showing possible research problems for future in-depth analyses which were not possible in a large, six-country comparison.