Economic Development Analysis: Implications оf Fiscal Independence

Abstract

Abstract. Introduction. The performance of economic development viewed from a macro perspective has created a dilemma for the government, particularly in terms of economic growth and income inequality, which have an important role but are difficult to go hand in hand. Based on the Tiebout model, fiscal decentralization can be used as a tool to encourage regional fiscal independence in the implementation of economic development which is considered capable of increasing economic growth and holding down the income inequality. The data used are cross-sectional data from 34 provinces in Indonesia for the period 2012 to 2020. The analytical approach used is a panel data dynamic relationship model with PVECM granger causality. Purpose. This study aims to analyze the dynamic relationship between the fiscal independence, economic growth, and income inequality in Indonesia. Results. There’s a long-term causality between fiscal independence, income inequality, and economic growth. In the short term, fiscal independence only affects economic growth significantly but does not affect income inequality significantly. In the long term, economic growth has a positive significant effect on income inequality, while income inequality has an insignificant negative effect on economic growth. In the short-term balance, the variables of income inequality and economic growth have a two-way causality that can influence each other. Conclusions. Increasing the level of fiscal independence in the short term will encourage economic growth, but not significantly in reducing income inequality. However, if the regional fiscal independence continues to be improved and optimizing the absorption of local revenue, the benefits will be felt in the long term.