Fiscal decentralization and the distributive incidence of the Great Recession

ABSTRACT

This paper argues that fiscal decentralization is one important explanation for variation in distributive outcomes following the Great Recession. Using a difference-in-differences approach, it examines how fiscal decentralization mediated the link between spatial distribution, redistributive effort and interpersonal inequality in 21 Organisation for Economic Co-operation and Development (OECD) countries in the years following the Great Recession. It is found that fiscally decentralized nations saw increased interpersonal inequality and lower redistribution, but lower interregional inequality. These results are attributed here to the weaker redistributive mechanisms in fiscally decentralized nations, which increased interpersonal inequality while preserving market-driven declines in high productivity areas that temporary increased regional convergence.

KEYWORDS:

• fiscal decentralization
• interregional inequality
• interpersonal inequality
• redistribution
• Great Recession

JEL:

• H71
• H72
• H77
• I38

ACKNOWLEDGEMENTS

An earlier version of this paper was presented at the workshop ‘Decentralisation after the Great Recession: Fine-Tuning or Paradigm Change?’, Santiago de Compostela, Spain, October 2017. The authors greatly benefited from the comments of André Blais, Miriam Hortas, Ignacio Lago, Santiago Lago, Jorge Martínez, Oriol Roca and Andrés Rodríguez-Pose.

DISCLOSURE STATEMENT

No potential conflict of interest was reported by the authors.

Notes

1. To capture the potential effect of specifics of the design of fiscal decentralization, and to ensure that the results do not depend on one particular aspect of fiscal decentralization, the empirical analyses use measures of both expenditure and revenue decentralization.

2. On the effects of economic shocks on interpersonal inequality, see, for example, Lovell, Travers, Richardson, and Wood (1994), Ravallion (2001) and Williamson (2005). On the effects of shocks on interregional inequality, see Rodríguez-Pose and Gill (2006), Rodríguez-Pose (2012) and Bouvet (2011).

3. In those decentralized contexts in which wealthier regions are not in a position to defend their interests effectively in the context of an exacerbated competition for scarce resources, as in Catalonia recently, the very institutional stability of the federation comes into question.

4. The overall level of government spending to reduce inequality increased. The level of government spending to reduce inequality is distinct from redistribution conceptualized as the government’s effort to reduce the market and disposable income gap.

5. This estimate is likely conservative because it includes extensive control variables, the lagged dependent variable, and year and country fixed effects. Base model results excluding the lagged dependent variable are closer to 4 points, or 14%.

6. We are primarily focused on the outcome variables of redistribution and interpersonal inequality. The parallel trends results also hold for our premise, interregional inequality, but we are less concerned with pre-existing trends in regional convergence before the Great Recession.

Additional information

Funding

The authors acknowledge financial support from the National Research Foundation of Korea [grant number NRF-2017S1A3A2066657].