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Democracy, Governance and Human Rights Programme Paper 2: Fiscal Decentralization in Developing Countries: A Review of Current Concepts and Practice

24 Aug 2001

  • Author(s): Paul Smoke

Economic reform in developing countries in the 1980s focused largely on increasing the role of the market and improving the environment in which it operates. Reformers almost seemed to forget the potential role of the public sector in promoting development. There are now widespread attempts both to redefine the role of the public sector in developing countries and to improve its performance. A component of these reforms is the introduction of policies to decentralize governance.

Fiscal decentralization and local government reform have become among the most widespread trends in development in the 1990s. Only modest progress toward meeting their stated goals has been achieved however. Consequently, there has been extensive debate about the desirability of fiscal decentralization and how to approach it.

As economic and political pressures for fiscal decentralization escalate and forces driving democratization develop, many countries feel compelled to decentralize. Fiscal reform of local government however is likely to be a slow and painful process because there are serious constraints on decentralization, and some standard analytical tools may have limited applicability. Available conceptual frameworks for analysing fiscal decentralization are useful, but they are not designed to deal with some of the most important factors affecting effective fiscal decentralization.

The most critical problem fiscal decentralization analysts face is a dearth of good comparative information on the extent to which and the conditions under which the alleged benefits and disadvantages of fiscal decentralization have been realized. Anecdotal evidence and case studies provide some insights, but additional policy experimentation and more systematic research are needed to understand more broadly the realities of and prospects for fiscal decentralization in developing countries. Such information would lead the way to better conceptual development and more effective public policy.

This paper considers first why fiscal centralization has been so prominent historically in developing countries, and why it has been reversing. Second, it summarizes conventional fiscal decentralization theory and considers its relevance for developing countries. Third, it reviews some popular claims made for and against fiscal decentralization, and considers the available empirical evidence. Fourth, it outlines some key elements of fiscal decentralization as it is being promoted in selected countries, including some of the problems being faced and successes being realized. The paper concludes on how to think about designing more appropriate and effective fiscal decentralization in developing countries.

Paul Smoke was an Associate Professor in the Department of Urban Studies and Planning at the Massachusetts Institute of Technology when this paper was written; he is currently based at New York University.

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