IREF - Institute for Research in Economic and Fiscal issues
Fiscal competition and economic freedom
The main purpose of this paper is to investigate whether, and to which extent, the rules introduced by central governments effectively restrain the spending behaviour of the decentralized authorities. In this paper, the authors provide an innovative comparative analysis by considering two countries that share the same degree of economic development and many cultural traits – France and Italy. Yet, these two countries differ in one crucial respect. France has a tradition of strong centralization, bureaucratic discipline and detailed technocratic control on the periphery (the regions). By contrast, Italy is known to follow a more flexible approach, which allows for some negotiation between the central and the peripheral authorities and feeds expectations for assistance and bail-outs, should the regions engage in excessive spending and violate the budgetary rules set by the centre.
In this context, this paper aims at verifying whether the presence of a rigorous and well organized central structure is truly effective in enforcing discipline upon the lower layers of government. To follow on this, the authors pursue a two-step empirical strategy by examining data spanning the 1995-2006 and the 1996-2007 periods, for France and Italy, respectively. For each of these two countries, they first identify the role of political culture and fiscal legislation in explaining the size of transfers from the centre to the regions. Second, they examine the deviations of the actual data from those that the official rules would imply; and investigate whether these deviations can be considered as proof of poor control/discipline by the centre.
It appears that deviations are present and significant in both countries. Put differently, slack monitoring or ineffective rules are pervasive: the regional budgets are indeed soft, independent of whether right-wing or left-wing coalitions are in power. In Italy, regional governments are allowed to overspend by “interpreting” the rules or by introducing ex post, ad hoc legislation, frequently under the influence of successful lobbying. In France the mechanism is less transparent, but the data show that the authorities do not hesitate to take advantage of the loopholes in the legislation. In the end, the outcome is no less important than in Italy, and in fact slightly more pronounced. In other words, bail-out expectations are present and well-founded in both countries, although the French seem to concentrate their soft behaviour on current expenditure, while the Italians show a preference for capital expenditure, with significant variance across regions.
To conclude, this paper clearly shows that legislation is less stringent than meets the eye, under all kinds of constitutional structure. As a matter of fact, politicians and bureaucrats always find a way of circumventing the rules of the game, by failing to pay attention to the details, introducing ad hoc legislation, revising previous bills, or providing extraordinary funding for recurrent “exceptional” projects. The upshot is that the only way of introducing fiscal discipline is by starving the beast, not by making it more reasonable.