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Political budget cycles and fiscal decentralization

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  • GONZALEZ, Paula
  • HINDRIKS, Jean
  • LOCKWOOD, Ben
  • PORTEIRO, Nicolas

Abstract

In this paper, we study a model ` a la Rogoff (1990) where politicians distort fiscal policy to signal their competency, but where fiscal policy can be centralized or decentralized. Our main focus is on how the equilibrium probability that fiscal policy is distorted in any region (the political budget cycle, PBC) differs across fiscal regimes. With centralization, there are generally two effects that change the incentive for pooling behavior and thus the probability of a PBC. One is the possibility of selective distortion: the incumbent can be re-elected with the support of just a ma jority of regions. The other is a cost distribution effect, which is present unless the random cost of producing the public goods is perfectly correlated across regions. Both these effects work in the same direction, with the general result that overall, the PBC probability is larger under centralization (decentralization) when the rents to office are low (high). Voter welfare under the two regimes is also compared: voters tend to be better of when the PBC probability is lower, so voters may either gain or lose from centralization. Our results are robust to a number of changes in the specification of the model.

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Paper provided by Université catholique de Louvain, Center for Operations Research and Econometrics (CORE) in its series CORE Discussion Papers with number 2006031.

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Date of creation: 00 Mar 2006
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Handle: RePEc:cor:louvco:2006031

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  1. Brender, Adi & Drazen, Allan, 2005. "Political budget cycles in new versus established democracies," Journal of Monetary Economics, Elsevier, vol. 52(7), pages 1271-1295, October.
  2. HINDRIKS, Jean & LOCKWOOD, Ben, 2004. "Centralization and political accountability," CORE Discussion Papers 2004052, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  3. Maria A Albino-War & Raju Jan Singh & Ehtisham Ahmad, 2005. "Subnational Public Financial Management," IMF Working Papers 05/108, International Monetary Fund.
  4. Seabright, Paul, 1996. "Accountability and decentralisation in government: An incomplete contracts model," European Economic Review, Elsevier, vol. 40(1), pages 61-89, January.
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  8. Linda Veiga & Francisco Veiga, 2004. "Political business cycles at the municipal level," ERSA conference papers ersa04p427, European Regional Science Association.
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  17. Besley, Timothy & Coate, Stephen, 2003. "Centralized versus decentralized provision of local public goods: a political economy approach," Journal of Public Economics, Elsevier, vol. 87(12), pages 2611-2637, December.
  18. Galli, Emma & Rossi, Stefania P S, 2002. " Political Budget Cycles: The Case of the Western German Lander," Public Choice, Springer, vol. 110(3-4), pages 283-303, March.
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  21. Timothy Besley & Michael Smart, 2005. "Fiscal restraints and voter welfare," LSE Research Online Documents on Economics 3769, London School of Economics and Political Science, LSE Library.
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Cited by:
  1. Clémence Vergne, 2011. "Democracy, Elections and Allocation of Public Expenditure in Developing Countries," Working Papers halshs-00564572, HAL.

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