A FRAMEWORK FOR ANALYZING THE IMPACT OF FISCAL DECENTRALIZATION ON MACROECONOMIC PERFORMANCE, GOVERNANCE AND ECONOMIC GROWTH

Abstract

This study analyzes the direct impact of fiscal decentralization on economic growth and broadens the scope of assessment by examining the indirect impact of fiscal decentralization on economic growth via its impact on macroeconomic performance and quality of governance institutions. The study uses a panel data set of 53 developed and developing countries over the period of 1996–2014. The empirical findings show that the indirect impact, rather than the direct impact of fiscal decentralization on growth, that is, the effect of decentralization on economic growth through its effect on macroeconomic performance and quality of governance institutions significantly matters for growth. Further, the results show that fiscal decentralization is growth enhancing when supported by stable macroeconomic performance in terms of stability in prices, budget deficit and exchange rate. The effect of fiscal decentralization on per capita gross domestic product (GDP) growth rate is positive when it is complemented by sound institutional structure in terms of rule of law, low corruption in government institutions, high-bureaucratic quality and democratic accountability. All these conclusions hold for developed as well as for developing countries.