Giving state and city governments in Latin America more autonomy to manage their own sources of tax revenue could promote greater local development and efficiency, according to a new study by the Inter-American Development Bank (IDB).
The study, Decentralizing Revenue in Latin America: Why and How, shows that Latin American countries lag other emerging economies and members of the Organization for Economic Co-operation and Development (OECD) in terms of tax revenue decentralization.
Local revenues cover only about 30 percent of total spending among sub-national governments in Latin America, compared with about 60 percent for OECD countries and 75 percent for emerging economies in Asia. Currently, Latin American sub-national governments rely heavily on central government transfers to finance their spending. Such transfers can vary widely and unpredictably, undermining local authorities’ ability to prepare more stable and realistic budgets.
“By giving local authorities more autonomy to manage their tax revenues, countries could increase the availability of resources to finance investments that actually improve people’s lives,” said Vicente Fretes Cibils, IDB Division Chief of Fiscal and Municipal Management.
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The study analyzed seven countries – Argentina, Bolivia, Brazil, Colombia, Mexico, Peru and Venezuela—finding that several factors hold back fiscal decentralization. Among the main ones are a lack of local institutional capacity to manage taxes properly and political constraints that prompt central governments to exercise greater control over local authorities.
“Central governments are often the biggest obstacle to decentralization because they fear they will lose fiscal control, political bargaining power and bureaucratic influence,” Fretes Cibils said. “While this may be true in many situations, it is critical for countries to recognize the positive impact revenue decentralization can have on the quality of public goods and services.” According to Fretes Cibils, “greater fiscal decentralization would allow state and municipal governments to better allocate resources to meet local needs while making governors and mayors more accountable for their spending because taxpayers can more easily track what they are doing”.
The study advises countries to consider a range of policies to increase the ability of local governments to manage and generate their own sources of tax revenue and reduce their reliance on central government transfers:
- Allow sub-national governments to implement surcharges to already existing national taxes, such as on value added or retail sales taxes.
- Support initiatives to help local governments to increase property tax revenue.
- Create incentives for sub-national governments to seek local sources of fiscal revenue, while weighing the political impact of imposing heavier tax burdens.
- Implement reforms to improve transfers to ensure they align with local needs and the capacity by sub-national governments to raise their own taxes.
- Implement policy and administrative reforms to give sub-national government greater autonomy to manage their tax revenue.
Central Bank of Chile photo courtesy of “Carlos yo” – Trabajo propio, CC BY 3.0, https://commons.wikimedia.org/w/index.php?curid=4869123