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Economics of Governance

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01-09-2020 | Original Paper

Elections and de facto expenditure decentralization in Canada

Authors: Mario Jametti, Marcelin Joanis

Published in: Economics of Governance | Issue 3/2020

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Abstract

This paper empirically investigates the underlying determinants of the respective roles of different levels of government in expenditure functions, guided by recent theoretical developments on the political economy of partial expenditure decentralization. We adopt a theoretical framework in which the degree of expenditure decentralization is endogenous and depends, in equilibrium, on the relative political conditions prevailing at each level of government. Consistent with the model’s predictions, empirical results from a panel of Canadian provinces show that the share of total expenditure in a province assumed by the provincial government increases with the electoral strength of the provincial government and decreases with the electoral strength of the federal government, in addition to being affected significantly by the partisan affiliation of both levels of government. A series of alternative empirical specifications, including an IV regression exploiting campaign spending data, are presented to assess the robustness of these results.

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Tanzi (2008) provides a broad perspective on this trend.

The influential “Decentralization Theorem” (Oates 1972) characterizes the trade-off “between efficient internalization of inter-jurisdictional spillovers through centralization and efficient matching of local policies to local tastes through decentralization” (Epple and Thomas 2004, p. 2453).

As highlighted by Weingast (2009), a key feature of the Second Generation literature as opposed to the First Generation models is a focus on positive rather than normative predictions.

While First Generation theories have tended to treat the assignment decision as a binary one (centralization or decentralization), in reality decentralization typically results in various types of arrangements referred to in the literature as ‘partial decentralization’ (Jametti and Joanis 2009). Partial decentralization may feature provision of goods and services by intermediate levels of government (Seabright 1996), by subnational governments that remain heavily dependent on transfers from the central government (Brueckner 2009; Borge et al. 2014), by different levels of government in a given policy area (Joanis 2014), or by local governments that provide and fund only some goods while others are provided centrally or internationally (Hartfield and Padro i Miquel 2012).

Studying the institutional consequences of decentralization (rather than its determinants), Falleti (2005) test a “sequential theory of decentralization” on four Latin American countries, finding that decentralization does not necessarily increase the power of local politicians.

Also in a panel context, Feld et al. (2008) show that centralization in Swiss cantons is negatively related to the availability of direct democratic decision-making (referenda), while Funk and Gathmann (2011), using a longer panel, do not find such an effect. Galletta and Jametti (2015) show that local expenditures are affected by direct democratic institutions at all levels of a federation.

For example, Oates (1985) relates the size of government to the degree of decentralization, a question that has been taken up by a number of studies (for a survey, see Feld et al. 2010).

The model is cast in the context of a pure moral hazard political agency model, an approach initiated by Barro (1973) and Ferejohn (1986). It shares many features with the pure moral hazard case of the Besley and Smart (2006, 2007) model, adapted and extendended to a hierarchy of governments by Joanis (2014). Closely related contributions that focus on horizontal interactions or externalities—as opposed to the vertical perspective adopted here—include Hindricks and Lockwood (2009) and Brueckner (2009). In other related models, Kessler (2014) and Dreher et al. (2018) introduce incomplete information and strategic communication between levels of government to revisit Oates’s decentralization theorem.

The formal proof of that proposition follows straightforwardly from Joanis (2014).

Program spending can be decomposed into four components: public goods and services, transfers to individuals, transfers to businesses and transfers to governments.

Transfers to local governments, which are targetable on a geographical basis, are well-known for their sensitivity to political economy consideration. See, for example, Case’s (2001) influential paper.

Note that provincial transfers to the federal government (very small amounts) are also excluded from our net decentralization measure.

Our political economy model of partial expenditure decentralization can be seen as capturing in a stylized way a key aspect of Canadian federalism: a fixed constitutional order from which the observed de facto degree of decentralization may ‘deviate’ over time and within province as a result of an ongoing political game played between the federal and provincial governments.

The source for federal elections data is electionalmanac.com.

These other parties are British Columbia’s Social Credit Party and the Saskatchewan Party, both located on the right of the political spectrum.

The negative coefficient for the population share of youth is somewhat counter-intuitive given the provinces’ role in education. This result is likely a by-product of the complex effect of population aging on the respective roles of the provinces (responsible for health care) and the federal government (responsible for old age security), especially when estimating the effect of the youth share conditional on the population share of the elderly.

We do not present results with standard errors clustered at the province level, since we only avail of 10 clusters (see Wooldridge 2003, for a discussion).

Due to data constraints, our campaign spending variables cover a slightly shorter time period.

We are well aware of the pros and cons of using fiscal variables to measure the extent of decentralization. While we would argue that fiscal decentralization is interesting in its own right, other institutional characteristics might be playing important roles alongside fiscal decentralization. For excellent critical discussions on that theme, see Blume and Voigt (2011) and Hooghe and Marks (2013).

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Title: Elections and de facto expenditure decentralization in Canada
Authors: Mario Jametti
Marcelin Joanis
Publication date: 01-09-2020
Publisher: Springer Berlin Heidelberg
Published in: Economics of Governance / Issue 3/2020
Print ISSN: 1435-6104
Electronic ISSN: 1435-8131
DOI: https://doi.org/10.1007/s10101-020-00241-8