Reasons for Fiscal Insufficiency in the Korean Local Finance

Abstract

This paper proposes two testable hypotheses to explain the persisting insufficiency of local fiscal resources in Korea. The first hypothesis is related to the revenue structure and the revenue raising efforts of local governments. Based on the fact that the local governments seldom exercise tax autonomy, we hypothesize that the elected local officials concentrate their efforts on obtaining intergovernmental transfers and refrain from exercising their taxing powers. The growth rate of ad hoc transfers obtained during an incumbents' term of office is positively correlated to her or his possibility for re-election. Since the local leaders can be rewarded by the electorates for bringing money from the higher levels of government to their districts, they tend to cry for more money with strong insistences of fiscal insufficiency. The second hypothesis is related to the size of the local governments. The average jurisdictional population is too small to enjoy scale economy in public service provision. By estimating the relationship between local expenditures and population, we found that there exists a scale economy with respect to population in the local public service provision. It is also shown that the average population of local jurisdictions is greatly smaller than the minimum efficient scale. These results imply that a reduction in overall local expenditures may be achieved by consolidating jurisdictions.JEL Classification: H71, H77