Chapter 5 – Is Latin America on the path to achieving sustainable fiscal decentralization?”[1]

                        Matteo Grazzi[2]                                 Fidel Jaramillo[3]


Fiscal decentralization is a relatively new process in Latin America. Only in the last decades, at the same time as a progressive return to democracy and a wave of sub-national electoral reforms, has a sufficient political consensus been reached in many countries of the region to decentralize some functions usually attributed to central government.

One of the main arguments supporting the devolution of expenditure and tax management to sub-national entities is the general belief that it is beneficial for national public accounts. But in practice, as decentralization progressed across Latin America, the financial situation of several countries worsened because of expanded inter-governmental transfers stemming from higher sub-national deficits and periodic bailouts of over-indebted decentralized governments. In this context, most Latin American countries recognized the need for a second-generation of reforms to establish controls over sub-national accounts.  Many established Fiscal Responsibility Laws (FRLs) containing subnational fiscal rules, attempting to reduce subnational spending and borrowing.

In this study, we analyze the performance of sub-national finances in the region and contribute to the understanding of the determinants of their fiscal outcomes. In particular, we focus on the effectiveness of FRLs in promoting fiscal discipline in local governments.

JEL Classification: H70, H74, O54

Keywords:  Decentralization, Subnational Fiscal Sustainability, Latin America


Ahmad, E. and B. Searle (2006), “On the implementation of transfers to subnational governments” in E. Ahmad and G.brosio (eds.) Handbook of Fiscal Federalism, Edward Elgar,  Cheltenham, UK

Bonet, J. (2009), “¿Por qué es Necesaria una Gestión Fiscal Local?”, IDB, mimeo

Braun, M. and L. Llach (2010), “Estableciendo y Evaluando Resultados Fiscales: Una metodologia”. Banco Inter-Americano de Desarrollo, Washington, D.C.

Braun, M. and M. Tommasi, “Fiscal Rules for Subnational Governments. Some Organizing Principles and Latin American Experiences”, in G.Kopits (editor), Rules and Practice in Intergovernmental Fiscal Relations. IMF and World Bank, Washington, D.C.

Channa, A. and J.P. Faguet. 2012. “Decentralization of Health and Education in Developing Countries: A Quality-Adjusted Review of the Empirical Literature.”  LSE/STICERD Working Paper No. EOPP 38.

Daughters, R. and L. Harper (2007), “Fiscal and Political Decentralization Reforms”, in E. Lora (editor) The State of State Reform in Latin America, Inter-American Development Bank, Washington, D. C.

ECLAC (2007,2009,2010,2011), “Economic Survey of Latin America and the Caribbean”, ECLAC, Santiago de Chile

Faguet, J.P. 2014. “Can Sub-National Autonomy Strengthen Democracy in Bolivia?” Publius: The Journal of Federalism, 44(1): 51-81; doi: 10.1093/publius/pjt020.

Faguet, J.P. 2004. “Why So Much Centralization? A Model of Primitive Centripetal Accumulation.”  STICERD DEDPS No.43, London School of Economics.

Faguet, J.P. and F. Sánchez. 2014. “Decentralization and Access to Social Services in Colombia.” Public Choice, 160(1-2): 227-249. DOI 10.1007/s11127-013-0077-7.

Filc, G. and C. Scartascini (2004), “Budget Institutions and Fiscal Outcomes Ten years of inquiry on fiscal matters at the Research Department”, paper prepared for the Research Department 10th Year Anniversary Conference, IDB, Washington D.C.

Ianchovichina, L., Liu, L. and Nagarajan, M. (2006), “Subnational Fiscal Sustainability Analysis: What can we learn from Tamil Nadul” World Bank Policy Research Working Paper 3947

IDB (Inter-American Development Bank) (1997), “Latin America after a Decade of Reform: What Comes Next?” Economic and Social Progress in Latin America (IPES) Report, Inter-American Development Bank, Washington, D.C.

Lane, T. (1993), “Market Discipline”, IMF Staff Papers, Vol. 40 (March), 53-88

Moron, E. (2010), “Descentralización y Desempeño Fiscal a Nivel Subnacional: El caso de Perú”,  Final Report, IDB

Oates, W. (2006), “On the Theory and Practice of Fiscal Decentralization”, IFIR Working Paper N° 2006-05

Oates, W. (1972), “Fiscal Federalism”, Harcourt Brace Jovanovic , New York

Plekhanov A. and Singh, R. (2007), “How Should Subnational Government Borrowing Be Regulated?” Some Cross-Country Empirical Evidence”, IMF Staff Papers, Vol. 53 (3), 426-452

Prud’homme, R. (1995) “The Dangers of Decentralization”, The World Bank Research Observer, Vol. 10, N° 2, 201-220

Sanchez Torres, F. and J. Zenteno Gonzales (2010), La Descentralización En Colombia: El Desempeño Fiscal de las Entidades Subnacionales”, Final Report, IDB

Shah, A. (2004), “Fiscal Decentralization in Developing and Transition Economies: Progress, Problems, and the Promise”, World Bank Policy Research Working Paper N° 3282

Stein, E. (1998), “Fiscal Decentralization and Government Size in Latin America”, IDB OCE Working Paper N° 368

Tanzi, V. (2000), “Policies, Institutions and the Dark Side of Economics”, Edward Elgar, Cheltenham, U.K.

Ter-Minassian, T., and J. Craig (1997), “Control of Sub-National Government Borrowing”, in T. Ter-Minassian (editor), Fiscal Federalism in Theory and Practice, IMF, Washington D.C.

Tiebout, C.M. (1956), “A Pure Theory of Local Expenditures”, Journal of Political Economy 64 (October): 416-424

Webb, S.B. (2004), “Fiscal Responsibility Laws for Subnational Discipline: The Latin American Experience”, World Bank Policy Research Working Paper 33