for ‘technical’ reasons. The second part takes the normative reasons for justifying the (de)centralization of the major tax sources into account.
When regional expenditure programmes are not covered by regional taxes, a fiscal imbalance arises. In the fifth section I analyse the contribution of the central government in reducing such imbalances. This involves a thorny discussion of ‘fiscal equalization’ mechanisms. The centre usually reduces fiscal imbalances on the basis of central grants. When doing this, the centre can engage in a form of horizontal equalization, that is, it may seek to reduce interregional differences in revenue or expenditure capacities.
Alternatively, some affluent regions may directly channel some of their money into the coffers of those regions poorer in resources.
The final section briefly discusses the distribution of tax powers as well as the mechanisms of fiscal equalization for each of our cases studies.
to another; and within one country from one time period to another. For instance, redistributive policies are more strongly developed in Germany than in the United States. Therefore, general tax levels are higher in Germany than in the United States. Yet, even within the context of the post- war German welfare state, the dominant economic paradigm has shifted between the late 1960s and 2005. This is so, despite the participation of Social Democrats in federal governments at the beginning (1966–82) and end (1998–2005) of that period.
Federal or regionalized democracies are not different from unitary democ- racies in that they should find a suitable mixture between stabilizing, redis- tributive and allocative goals. However, for two reasons, whether or not a state is federal may greatly affect its abilityto find such a balance.
First, federal states assign expenditures to different levels of government.
Since federalism also implies a certain diffusion or decentralization of politi- cal control, a federal government cannot normally codetermine how the regions will spend allof their public money. Similarly, federal expenditure programmes normally fall beyond the control of the regional governments.
Second, in all federal and most of our regionalized states, the regions can raise at least part of the revenue which sustains their expenditure pro- grammes. Consequently, a federal or multilayered structure can constrain the freedom of one government to impose monetarist or fiscal strategies upon the other. Central governments of a federal or a regionalized state are more constrained in pursuing unilateral supply-or-demand-side policies than central governments which operate in a unitary context.
In federal states then, the control over the stabilization, redistribution and allocation of public or semi-public goods is not necessarily attributed to the same level of government. Nonetheless, there are conflicting theories as to which level will engage in what type of activity. Paul Peterson has summa- rized two of these conflicting views as ‘a functional’ and a ‘legislative theory’
of federalism (Peterson 1995: 16–50).
According to the functionaltheory of federalism, the centre will control the stabilizing and redistributive functions, whereas the regions will focus on allocative or, in Peterson’s terminology, ‘developmental’ programmes. He conceives of developmental programmes as ‘programs that provide the physical and social infrastructure necessary to facilitate economic growth’
(Peterson 1995: 17). In this sense, the ‘functional theory of federalism’
corresponds with the majority viewpoint of public economists in this regard (Musgrave and Musgrave 1973; Oates 1972). Ultimately, the functional theory predicts that the distribution of competencies answers the question
‘who is best at doing what’?
Stabilization and redistribution require a strong degree of interregional coordination. Such coordination is provided more efficiently by a central government than by an interregional coordination body. Thus, central governments will assume a dominant role in monetary policy-making.
To control inflationary pressures, central governments may also coordinate borrowing policies at all levels. In some federations, the centre and the regions may be banned from engaging in unilateral deficit-spending. They may be forced to operate under ‘tight budget constraints’ instead (Rodden, Eskeland and Litvack 2003). Some expenditure programmes, such as unem- ployment benefit schemes, are very sensitive to changes in the economic cycle. They could undermine the overall macroeconomic stability of the state if the regions were to expand them and engage in debt-financing. For this reason, the centre also normally controls them.
Apart from holding the strings of macroeconomic policy coordination, central governments are also more actively engaged in redistributing money from the havesto the have nots. The objective of redistribution requires that central governments control the base and rates of the most mobile and pro- gressive taxes. Central governments are more impartial and represent a wider range of interests than regional governments. Central governments can also seek to phrase redistributive programmes in terms of individual rather than of territorial need. Redistributive objectives may conflict with the goal of allocative efficiency, but society may give higher priority to the need of pro- viding educational or health services of comparable standard throughout the state. For instance, the people may fully support the need to ‘pool or cen- tralize’ certain social costs. Examples could be social insurances which pro- tect against mental or physical disability or unemployment and pension schemes. For the same reason, policies that generate cross-border externali- ties, such as environmental pollution, are regulated by the centre as well.
Finally, central governments also control the delivery of a number of public goods that qualify as supra-regional or national, that is, ‘goods whose benefits extend nation-wide or whose provision is subject to substantial economies of scale’ (Ter-Minassian 1997: 4). Typical examples of these are defence, cost-intensive infrastructure for interregional transport (interre- gional highways or railways), immigration policies, national telecommuni- cations infrastructure and foreign relations (with the proviso that regions may possess substantial powers to conduct foreign policy in areas in which they have domestic competence). Costly research and development tasks could be added to the list and, potentially, higher education also. For instance, providing the latter at a supra-regional level may generate substan- tial economies of scale. This is particularly so when a federation comprises a large number of small regions which could not bear the full cost of provid- ing these goods separately (as is the case in Switzerland).
The functional theory of federalism predicts that the centre will primarily engage in redistributive and stabilization policies. However, regional gov- ernments should assume a dominant role in regulating and implementing (but not necessarily funding) developmental programmes. By decentralizing expenditure programmes, public services can be offered that best approxi- mate to local market conditions and thus benefit the welfare of all.
Paul Peterson has distinguished between physical and social infrastructure programmes. Examples of ‘physical infrastructure’ programmes are road construction and maintenance (of roads which do not cross regional borders), basic utilities, such as electricity supplies, public parks or sanitation systems or fire prevention services and public transport. ‘Socialinfrastructure’
programmes refer to education policies, public health, but also policing and justice (except for cross-border criminality; Peterson 1995).
Thelegislativetheory of federalism predicts a very different distribution of competencies. It argues that form does not necessarily follow function.
Using the premises of rational-choice theory, it predicts that the distribution of competencies will reflect the aspirations of individual policy-makers at the various levels of government and the existing power relations between them. The legislative theory sees ‘legislators’ as the most important policy- makers in the political process. Legislators are less driven by finding a distri- bution of policy programmes which maximizes the welfare of all than by securing their own re-election. In that case, central legislators may seek to control the most important developmental programmes. Such programmes have spatially concentrated benefits, but diffuse costs among all the federal tax payers. Hence, a legislator may bargain to see the construction of a sports centre, a roadway or a research laboratory within the region from which she originates. However, she may be less keen to support a fiscal assistance plan to help the blind. Indeed, welfare programmes of the latter type are usually not confined to one region. Arguably, the share of blind people should be about equal in all the regions of a federation. However, the costs of such welfare programmes are certainly not more dispersed than the costs of devel- opmental programmes. Therefore, they have a less favourable cost-benefit ratio. At best, central legislators may still try to take credit for such pro- grammes, but shift the responsibility for funding and implementing them to the regions (Peterson 1995: 39–47). Put differently, the centre may still regulate on them (so as to take credit), but under the form of an ‘unfunded mandate’ (i.e. without providing the necessary funding). It follows that the legislative theory of federalism predicts a distribution of competencies which looks very different from what the functional theory has in mind.
The centre will assume a dominant role in controlling developmental programmes, but the regions may carry the brunt of the redistributive programmes. The legislative theory of federalism does not say anything in particular on which level of government will be made responsible for the overall goal of macroeconomic stabilization.
In recent years, a third theory has emerged which provides yet an alterna- tive view on how the distribution of competencies in a multilayered state may unfold. This theory sprang from the creative mind of Daniel R. Kelemen (Kelemen 2000, 2004). At one level, his theory is narrower in scope than the functional or legislative theories of federalism. It does not consider the
envisaged distribution of large-scale redistributive or developmental programmes in a federal state. Instead, it focuses on ‘regulatory’ policies only, such as environmental regulation, anti-trust policies, or food and safety regulation (Kelemen 2004). Regulatory policies do not normally generate major direct costs, but where they seek to reduce barriers or prescribe minimum product standards they may generate substantial transition or implementation costs.
At a different level, however, the regulatory theory of federalism is broader in scope than the legislative theory. It shares with the latter an assumption that political actors are driven by rational self-interest. However, it is less focused on legislators, and also takes the interest of other political players into account such as executives, civil servants and judges. For instance, whereas legislators may seek their re-election, judges may seek to expand the scope of disputes on which they can rule. Moreover, the regulatory theory more explicitly takes the incentives of central and regional actors into account. Incorporating a broader set of actors and the specific institutional configuration in which they interact, Kelemen argues that the regions will come to delegate most of the regulatory powers to the centre but will keep control of their implementation. The centre’s control of regulation and the region’s responsibility for implementing these rules is not a function of the self-interest of central legislators. Such an outcome results from the mutual interest of central and regional political actors. Furthermore, the regulatory theory does not predict whether the regions wish to keep control of the mechanisms for financing the implementation of these regulatory policies.
In order to understand why and how such a distribution of competence unfolds, consider Kelemen’s line of thought. Central actors wish to maxi- mize their influence in all policy fields. Regional actors are only willing to delegate regulatory powers to central policy-makers if by doing so they can reach a policy objective which they cannot reach independently. This could happen whenever the regions engage in a destructive race to the bottom or whenever they must find agreement on cross-border issues such as environ- mental pollution.
For instance, assume two adjacent regions, A and B, both with full respon- sibility in setting and implementing environmental standards in the field of noise pollution. Yet, A sets much higher environmental standards than region B. Region A would then suffer from the noise levels produced by Region B, but Region B may feel threatened in its economic activities when Region A seeks to enforce its higher environmental standards in court. For region A, a commonly accepted noise level would be desirable: it would save the cost of introducing court cases; appease regional constituents who would now benefit from lower noise levels and remove B’s competitive advantage vis-à-vis A. Conversely, region B may be persuaded to agree to higher envi- ronmental standards if that would give its products free access to the
customers of region A. It may be easier for A and B if such a solution is worked out by a federal arbiter than by means of bilateral agreement. Central governments in turn may be keen to take on such a role, as it allows them to increase the scope of their activities and to serve a publicly felt need. Federal courts may welcome this development as well, as they can now rule on a larger number of competencies.
However, central governments will never absorb the full implementing authority in these policy fields. This would force them to invest considerable amounts of money in setting up the necessary bureaucracies and in bearing the full political costs of potential implementation failure. Conversely, the regions may be keen on retaining some of the authority for implementation as well. This way, they would retain some say in centrally regulated policies and be able to shift the blame onto the central governments whenever poli- cies fail. Furthermore, regions which previously imposed a lower standard (region B in the above example) may be particularly keen on implementing these policies. This may provide them with some leeway in applying the higher standards which region A or the federal government proposed.
Consequently, in a large number of policy areas in which the central government assumed regulatory competence, the regions retain implementing authority. In sum, in the field of regulatory policies, the distribution of competencies would be in many respects reminiscent of ‘administrative federalism’ (Kelemen 2004: 1–22).