The Fiscal Interest Approach: The Design of Tax and Transfer Systems

26 Pages Posted: 22 Dec 2013

See all articles by Caroline Pöschl

Caroline Pöschl

London School of Economics & Political Science (LSE)

Barry R. Weingast

Stanford University, Department of Political Science

Date Written: September 1, 2013

Abstract

The design of the fiscal system vitally shapes subnational government institutions, policy choices, and economic performance. In this chapter we focus on the fiscal interest approach, the idea that the specific arrangements of tax and transfer systems directly affect the interests and incentives of subnational political officials. These incentives therefore affect these governments’ policy choices and, consequently, the performance of their jurisdictions. This chapter reviews several ideas in the literature that show how precisely this occurs. When the taxation and transfer system has subnational governments rely on own revenue generation from broad based taxes, subnational governments tend to be responsive to their residents’ needs, the overall health of their economies, and more willing to provide market-enhancing public goods. An excessive reliance on central government transfers, on the other hand, has a detrimental effect on subnational incentives to assist the production of wealth. We provide and overview of how the type of tax that is assigned and the specific formula used to divide central government funds among subnational governments either rewards or punishes subnational government efforts at promoting growth and prosperity; and, similarly, whether it encourages subnational government spending beyond their means or promotes prudent fiscal management.

Keywords: second generation fiscal federalism, fiscal incentives, institutions, political performance, taxation, political economy

Suggested Citation

Pöschl, Caroline and Weingast, Barry R., The Fiscal Interest Approach: The Design of Tax and Transfer Systems (September 1, 2013). Available at SSRN: https://ssrn.com/abstract=2370560 or http://dx.doi.org/10.2139/ssrn.2370560

Caroline Pöschl

London School of Economics & Political Science (LSE) ( email )

Houghton Street
London, WC2A 2AE
United Kingdom

Barry R. Weingast (Contact Author)

Stanford University, Department of Political Science ( email )

Stanford, CA 94305-6010
United States
650-723-0497 (Phone)
650-723-1808 (Fax)

HOME PAGE: http://https://www.stanford.edu/group/mcnollgast/cgi-bin/wordpress/

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