Regionalization and its effects in Finland – a regional AGE modelling analysis

Regional structural change is currently among the greatest challenges facing the public sector in many EU countries. In countries like Finland, where the public sectors have a large role in providing educational, health and social services, structural change rapidly becomes a fiscal problem. Demography is directly linked to the demand for public services and to the potential growth of regional economies. On the one hand, ageing increases the demand for age-related services; on the other, it decreases labour supply, limiting the growth potential of many regions. The state's main tools for regional policies consist of both direct subsidies to the regions, as well as a mechanism reallocating tax revenues between poor and rich municipalities. However, the welfare costs of funding subsidies to poorer regions may be considerable. Thus, instruments not involving changes in spending have been preferred. Here, we consider the relocation of certain functions of the central government to the periphery – regionalization – as an instrument for coping with regional structural change. An improvement in regional municipal finances should also reduce the transfers received from the central government. This study aims at evaluating the effects of regionalization on regional development in recent years and in the near future. The study is related to an ongoing evaluation of the financial relations between the central government and local authorities. Regionalization has in practice meant the relocation of central government jobs. We can cover the relocation of jobs quite accurately, and also had a data to make a plausible valuation of the number of employees that actually relocated with the jobs. Moreover, we are able to calculate state transfers to municipalities at the level of individual municipalities within each region. However, to capture all the implications of relocation to regional economies, we extend the model to take into account the average size and age profile of the families of those who relocate. In this way, we obtain an estimate of the effects of regionalization on demand for public services locally, as well as on the overall effect on local population, labour supply and state, municipal and social security funds' budget balances. We analyse regionalization at the level of the twenty regions of Finland, using a dynamic, regional, AGE model. Our main finding is that regionalization has negative overall economic effects for Finland – it decreases national product and employment, deteriorates the fiscal balance and increases state transfers to municipalities. However, these effects are small by magnitude. We found that the cumulative decrease in GDP until 2018 was a bit less than 0.05 percentages. The policy altogether succeeds in leveling regional disparities. We also find that while regionalization has been beneficial for many regions by creating new jobs and increasing municipal tax revenues, it has also used resources wastefully as there has been double efforts during the transition period.