Fiscal rules for sub-central governments – a Norwegian perspective

1. Fiscal rules for sub-central governments –a Norwegian perspective Rune J. Sørensen Norwegian School of Management (BI), Oslo, Norway E-mail: rune.sorensen@bi.no For presentation at the second meeting of the network on fiscal relations across levels of government, OECD Headquarters, Paris 8-9 September 2005

2. Outline • Why regulate sub-central governments • The political ’strength’ of cental government • The Nordic system of local government • The Norwegian hospital sector • The allocation costs of tax regulation

3. A need for central regulations? • Common pool problems: • due to vertical fiscal imbalances, and • ’weak’ central government. • Intertemporal imbalances: • due to local borrowing and residential mobility, and • ’soft’ central budget constraints. • Imperfect voter controls

4. A need for central regulations cont. Information problems may induce local politicians to vote for higher public spending levels : • Local government politicians offer voters a better service supply, while voters keep national politicians responsible for tax increases (or local deficits) • BUT: Central government sets minimum standards and entitlements, which must be met by local governments (”unfunded mandates”). Voters may keep local politicans responsible for tax increases

5. 2. A ’strong’ central government? • Political structure of central government • Election systems and party fragmmentation • Types of parliamentary government • Selected empirical studies: • Common pool: Inman & Fitts (1990); Borge & Rattsø (2002) • Intertemporal imbalance: Roubini & Sachs (1989); Alesina & Perotti (1995); Inman (2003);

6. Fiscal federalism (the standard version) Local public goods Residential mobility, including tax competition Local discretion, including Local tax financing, small central grants Discretion with respect to tax rates Administrative federalism (Nordic model) Individual welfare services Representative democracy Extensive central controls, including High share of central grants Limited tax discretion and other fiscal rules 3. The nordic local government model

7. Norwegian local government consumption Forecasts in the National Budget and National Accounts1) 1990-2003 averages: Planned growth rate: 1,6 % Actual growth rate: 2,4 % 1)2002 is missing.

8. 4. The Norwegian hospital sector • In january 2002, Norway transferred the responsibility for the hospitals from county governments to central government • Did transfer of responsibility from local to central government ”solve” problems of spending control?

9. Public health care spending i Norway 1997-2004

10. Production growth in the Norwegian hospital sector measured in DRG points. Source: Terje P. Hagen, University of Oslo 2005. Central government responsibility County responsibility Actual growth rate Planned growth rate

11. 5. The allocation cost of tax regulation • Rural municipalities: • They receive large central grants, partly to compensate diseconomies of scale and demographics, partly as part of regional policy. • The outcome is high levels of local public consumption, and very high levels of local public consumption relative to private revenues. • Urban municipalities: • They receive small central grants. • Local public consumption is very low relative to private revenues. • Does central rax regulation induce an allocation loss?

12. Allocation loss due to Norwegian tax regulation (Sources: Statistics Norway 2003; Questionnaries to local politicians 1995,1999,2003, N=6247; Data from various population surveys 1993-2003, N=8594)

13. Estimates of allocation loss • Assumptions: • Price elasticity: -0,4 • Income elasticity: 0,6 • Allocation loss (consumer surplus) based in 2003-data:1000 NOK per capita (municipal level) or about 3 percent of local government revenue Source: Borge, L.-E. 2003. More tax autonomy for Norwegian local governments: possible implications for efficiency and service provision. Mimeo. Norwegian University of Science and Technology