Motivated by the recent experience in the Russian Federation, this paper examines the implications of imposing central control on the budgetary activities of a subnational government. In a highly stylised multi-task principal-agent model (Holmstrom and Milgrom (1991)), a central government cannot directly monitor the informal budgetary operations of a regional administration, but seeks to improve fiscal policies by exerting control over a “formal” regional budget and imposing (limited) costs on informal behaviour. In the static case of the model, the control of subnational budgetary operations by a benevolent central government may increase social welfare, but at the expense of higher (implicit and explicit) taxation of economic organisations in the region, lower output, and a strong orientation of informal policies toward rent seeking activities. The additional imposition of costs on regions for conducting informal budgetary operations has multiple (indeterminate) effects in ...
Central Control of Regional Budget
Theory with Applications to Russia
Working paper
OECD Economics Department Working Papers
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