Etudes économiques par pays

Economic survey of Italy 2007: Making federalism work

 

Contents | Executive Summary | How to obtain this publication | Additional information

The following OECD assessment and recommendations summarise Chapter 4 of the Economic survey of Italy published on 4 June 2007.

Contents                                                                                                                       

How should the fiscal federalism framework be reformed?

Over the past decade or so, Italy has extensively decentralised the provision of public services to lower levels of government (with the major exception of education). This is a promising development that could improve the allocation of resources in the economy and enhance the accountability of government, insofar as closer interface with citizens can better identify needs and enhance transparency in the sources and uses of public funds. In a sense, it exposes the government to competitive forces in line with the direction being taken by the whole economy. Indeed, the quality of local public administrations has improved in various ways with the devolution of powers from Rome – including in the lagging southern areas. EU structural funds have had a similar impact because local governments stand to lose these funds, along with matching central government grants, if they fail to prepare convincing proposals that are well executed.

This project has nevertheless hit serious teething problems, including on the financing side. The “fiscal federalist” provisions of the 2001 constitutional reform should have involved a radical transformation of funding arrangements: discretionary central transfers should have been sharply reduced, autonomous tax bases and tax sharing increased and “equalising” transfers linked to objective structural parameters. However, these changes have met great resistance from poorer regions who stand to lose under a more rational transfer system, at least in the short term. The reform therefore remains on paper, and financial transfers from the central government are still based on historical spending and on the results of a bargaining process. This increases incentives to spend more in order to get more and reduces expected gains in terms of efficiency. The benefits of developing local tax bases are muted for the same reason. Some regions have taken the central government to court to extract more money, and won, on the argument that the requirement to satisfy high “national standards” in social services like health care implies a financial responsibility for the central government. There is therefore a need to reform financial arrangements with sub-national governments. In particular, regional equalisation transfers should be linked to the “standard cost” of providing essential guaranteed services and to own tax capacity. A reduction of transfers from the central government should be accompanied by the development of autonomous taxes at the local level, so as to provide a better match between spending responsibilities and taxing powers and allow some scope for tax competition. As well, there should be a standardisation of accounting standards at all levels of government, so as to improve the monitoring of the internal stability pact.

How could fiscal autonomy better match fiscal effort?

A major difficulty with the decentralisation process has been the need to identify the minimum level of social services guaranteed across the nation. Under the new constitution, the state must decide on the level of services provided to all citizens in the social sphere (Livelli Essenziali di Assistenza, LEA) and guarantee the financing to achieve them in every region. This guarantee has made fiscal federalism more politically acceptable, by reducing fears of a “race to the bottom” accompanying the decentralisation of public services. Indeed, it makes sense to set a minimum level of basic services available to all in the country and leave the regions free to top up this basic level with additional provisions, depending on the socioeconomic preferences of each regional government. The LEA should, however, be defined in terms of output, rather than input, so as to encourage the efficient delivery of services; in regions lacking efficiency, more generous services would require increasing taxes, thus improving accountability about government decisions.

The health care sector is by far the largest regional spending area and therefore a case in point. Health care spending was sharply squeezed in the run up to EMU but has subsequently surged. With acute ageing still ahead, health care is therefore the main pressure point for long run public finances. Also, despite virtually equalised per capita resources across regions through transfers, spending quality varies widely and persistently. Regional overshoots in health spending have been financed by ex post clean-up operations from the national budget, by expanding suppliers’ credits and by creative accounting – all indicating soft budget constraints. The 2006 and 2007 budgets have tried for the first time to impose sanctions, obliging regions with health care deficits to raise their tax rates up to the maximum level allowed. The regions currently unable to respect health care balance must undergo restructuring plans to be agreed with and under the control of central government. These plans foresee containment programmes of health expenditures temporarily accompanied by additional public resources, and are aimed at balancing the health care account by 2010. They may involve a further increase in regional tax rates as long as the health care expenditure containment is not achieved according to the programme.. This seems to be contributing to more spending discipline, although this mechanism may lead to higher tax wedges in deficit regions and has been associated with the central government assumption of part (0.2% of GDP in 2007) of the large debt to suppliers. Thus, the health care pact should have sanctions that “bite” more involving stronger accountability of responsible local officials, the ultimate sanction being a temporary management takeover by central government.

Central government spending by function
As a percentage of general government spending

 

Source: Buglione, E. and M. Marè (2007), "Main issues of Italian Fiscal Federalism", Working Paper SIEP.

How to obtain this publication                                                                                      

The Policy Brief (pdf format) can be downloaded. It contains the OECD assessment and recommendations but not all of the charts included on the above pages.

The complete edition of the Economic survey of Italy 2007 is available from:

Additional information                                                                                                  

 

For further information please contact the Italy Desk at the OECD Economics Department at eco.survey@oecd.org.  The OECD Secretariat's report was prepared by Alexandra Bibbee and Benoît Bellone under the supervision of Patrick Lenain.

 

 

 

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