Federalism - Empowering Communities

by Stephan Kyburz

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Show notes episode #21

Summary: Federalism is power-sharing among regions and the central government of a country. It is the vertical division of power. It’s a joint agreement of regions, of states, of communities, that leaves the subnational governments the choice and possibility to find their own appropriate, tailor-made governance solutions for its communities.

Federalism can only work with strong democratic institutions. It is crucial that institutions represent and balance the people’s interests well, and that put executive constraints on local leaders, and that do not concentrate power in local elites.

Federalism cherishes differences rather than uniformity. It cherishes different cultures, different languages and different communities.

In this episode, I provide a preview of some of the issues I want to discuss with regard to federalism and decentralization, which will be a significant topic on the show.

References to books, papers, and other contributions:

Full Transcript:

Introduction:

Hello and welcome to the Rules of the Game podcast, where it is my job to discuss democratic institutions.

Organizing a state, organizing a country as a democratic structure is challenging. Think about it! How can millions of people coordinate and implicitly or explicitly agree among themselves to regulate their lives, to give themselves rules that work. It’s absolutely fascinating.

A country can be organized from the center as a unitary state, delegating some governance and the provision of public goods to the regions. Or a country can be organized as a federation, where significant political decision making power is held at the subnational level, only delegating certain tasks and decisions to the federal government. 

Federalism is power-sharing among regions of a country and the central government. It is the vertical division of power. It’s a joint agreement of regions, of states, of communities, that leaves the regions, the local governments the choice and possibility to find their own appropriate, tailor-made governance solution for its communities.

Generally, I am a big supporter of sharing power, even though it may require more coordination and more deliberation. The risks of too much power concentration are incredibly high. It leads to the abuse of that power, and often to unnecessary coercion, either domestically or across borders. So in whatever institution I am discussing on my show, I will mostly favor the power-sharing institution. 

Of course, federalism can only work with strong democratic institutions. It is crucial that institutions represent and balance the people’s interest well, include minorities in the decision making process, and that put executive constraints on local leaders and do not concentrate power in small local elites.

Federalism cherishes differences rather than uniformity. It cherishes different cultures, different languages and different communities.

In this episode, I provide a preview of some of the issues I want to discuss on the podcast with regard to federalism and decentralization, which will take significant space on my show. 

This episode is more like an opinion piece rather than a discussion of theoretical and empirical research. Nonetheless, I will briefly introduce some basic concepts that I think are useful to understand how government responsibilities can be regulated between territories. 

I am your host, Stephan Kyburz, and this is the twenty first episode of The Rules of the Game podcast. I am a political economist with a PhD in Economics from the University of Bern in Switzerland. And I previously held positions at the London School of Economics and Political Science and the Center for Global Development.

You find a full transcript of this episode on my website rulesofthegame.blog. I am always curious to hear your opinion, so just send me an email to [email protected], and please leave a review and share this episode with friends and colleagues. 

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Globalization and localized democratic institutions

We live in an ever-more interconnected and globalized world. Especially these days, I am sure you know that feeling of being overwhelmed by this interconnectedness and dependencies. 

Covid has shown how quickly viruses can spread all across the planet. Russia’s invasion of Ukraine demonstrates how concentrated political power can wreak havoc and bring horror upon another country. The effects on supply chains and the world economy are only starting to play out. Climate change feels like a hanging sword of Damocles over our heads. Ever larger multinational companies seem to amass great economic power and influence over national states. It all feels scary and we feel powerless. It is truly terrifying when you see centralized power in action, like in China or Russia for instance.

These feelings are a reaction to many of the ongoing global problems. People want to take back control, like the Brexit case has shown. People flock to right-wing parties that promise them control and a stronger national identity. People also blame capitalism for the ills of the world and propose alternative economic models. In the end though it’s all about how we divide and control political power. It’s about who decides on the rules of the game. 

Interestingly, many right-wing populist politicians are playing on those fears of people. Yet, those politicians have no interest in giving the people more power. They honor dictators and appeal to nationalist ideals – in the end they want to accumulate their own personal power and wealth.

I actually often ask myself, why are there not more moderate parties that try to give people more control over their local communities?

What people are lacking is control over their own regional and local communities, to have a direct say, which would give them substantial leeway to creatively shape their own surroundings. 

People also lack control over their national politics of course. To be frank, in many countries people do not have much political power at all, they do not feel represented at any government level, they have no veto powers. To me that is clearly one of the main problems. Regional and local governments could provide many, if not most of the public goods, and people could have way more power and control to decide how they want to shape and develop their communities.

And by control, I mean having a say over local taxes, government expenditures, investment projects, local regulations, sewage, roads, fire safety, cultural events, local transport infrastructure like bicycle lanes, schools and education, health care centers and hospitals, sports centers, solutions for disabled people, youth centers, churches, natural conservation, local public transport, recreational facilities, public swimming pools, local social security, nursing homes, etc.

So many public goods and services that governments provide could be decided upon, financed, and produced locally. 

The main question is really whether citizens have the regional or local authority to make such decisions.

Importantly, I am not saying that communities should be completely isolated and autonomous. That is neither desirable nor feasible. Many decisions have to be taken at a national or even international level. Trade and international agreements and unions are super important and have many benefits. Yet, today I focus specifically on the subnational institutions to organize political power. 

Federalism – guaranteed vertical division of power between national and regional governments

What if regions and communities could rule themselves to a large extent? What if we could empower local communities? And how can we break centralized political power?

While it is quite naïve to think that in a globalized world, communities could be run independently of larger state structures and international agreements, it is nevertheless intriguing to think about alternative government structures that are based in regional and local politics rather than huge centralized states that are often very inefficient and accumulate power to leave citizens with very little or no power. Centralized power can be abused and is often a threat to the people themselves and other nations. 

Federalism is a system of government where authority is shared among the central government and provincial or state governments, and local governments. In such a system subnational territories have their own full-fledged governments with legislative, executive and judicial branches of government, with fiscal autonomy, and with their own constitutions.

While unitary states also may devolve power – as I have for instance discussed with Brenda Ogembo around devolution in Kenya in the nineteenth episode – in a federal structure some vertical division of power is guaranteed. As of 2015 only 27 of the 193 UN member states had a federal system of government.

In a unitary state, the central government is the supreme authority. The central government may create or abolish subnational government units. Subnational units only exercise the political power that the central government decides to delegate to them. Hence, the division of power is asymmetric, with the central government having the final say. 

Since political power naturally tends to accumulate, it is likely that the central government keeps many important responsibilities, while the lower tiers of government only execute what the central government allows them to, without much space for experimentation and creativity. 

Of course, there are unitary states where local governance is much more developed than in some federal states. There are federal state structures, where local government responsibilities are quite limited, while there are unitary states that end up with strongly devolved political powers and efficient government services. So people in unitary states may end up having more control over local politics than people in some federations. So in the end, it really matters how these different government structures are implemented – the rules of the game.

How exactly political power, fiscal responsibilities and public administration tasks are divided between tiers of government depends on the specific country and there is a great variety of solutions. There are different versions of federalism, and it goes beyond the scope of this episode to talk about them.

What is fascinating about federal states – again depending how they are structured – is the regional authority that governments have. This creates a balance of power between the central and the regional governments. It creates an additional check on the central government and balances power between the federal and subnational governments. Furthermore, once regional and local governments are operating with a considerable degree of autonomy from the central government, an element of competition between regional governments is created. This again puts pressure on governments to become more efficient and prudent regarding public finances – and I will explain that mechanism later in the episode.

What is of course crucially important to stress here is how regional and local governments are themselves organized! Federalism fails to deliver, if subnational governments are concentrating their power in the hands of the few rather than the many that is if regional and communal parliaments are not representative of the people, and the people have no participation and no veto power over decisions taken by subnational governments. Like at the national level, how we build institutions at the regional and local level is crucially important.

Also important to stress is that while federalism may create a lot of coordination costs among different regions, the process of relative self-governance provides utility to its citizens. Centralization of government in contrast, provokes significant decreases in residents’ life satisfaction as researcher Sarah Flèche has shown in a recent research paper. This may be a discussion for another episode though.

In the following minutes, I am going to describe a few concepts that I think are useful when thinking about federalism and the devolution of political power.

Subsidiarity principle

First, I’d like to discuss the subsidiarity principle. Subsidiarity defines that political decisions are taken and public goods provided at the lowest possible tier of government. It means that centralized government authorities should only have a subsidiary function, performing only those tasks that cannot be resolved at the local or regional level. In other words, problems should be solved at the most immediate government level. The central government should not interfere when the issue can be resolved at the local level. 

Important public services such as education, police and fire protection, sanitation, recreation, and even public health can be produced efficiently by relatively small communities, perhaps as small as 10,000 households.

The European Union, for instance, is based on that principle, but also Switzerland. Whether that principle is duly applied is another question of course. 

The subsidiarity principle hence makes the lower tiers governments the default provider of public services and public goods. This is in contrast to a centralized government authority that decides what government functions it wants to devolve to the lower tiers of government. Federations thus delegate power to the subsidiary central government, while unitary states delegate it to the lower tiers of government. The crucial difference is the premise where political power lies initially, with the central authority or with the regions and communities. 

Historically many nation states were built by central authorities, such as monarchs or emperors, that tried to accumulate and centralize power – maybe you have listened to the previous episode titled “A short history of political institutions”. These ancien regimes were then often replaced by modern nation states that not surprisingly kept the centralized form of government in place. Fewer countries have organically grown together to a union of states, such as the United States or Switzerland.

One main reason for centrally coordinating government provision of services or goods are externalities and economies of scale. When public services are pure public goods for which the marginal cost of adding another user will be zero, for instance national defense or basic research, or when there are inefficiencies arising from externalities across jurisdictions, then the central government will be assigned responsibility for those services (Imran & Rubinfeld 1997). Externalities arise for instance when the water quality of a river in a region downstream is affected by industrial production in a region upstream. In such a case, the two regions may coordinate and resolve the issue, or a central government authority may take responsibility regulating water quality. I will cover this issue in a later episode. 

One of the most important questions in federations though is how regional and local government institutions are built? How is the legislative branch elected? How is the executive elected? Is there even a division of power? Especially in presidential regimes, concentration of executive power in one person is likely to be replicated at the regional and local level. 

This is an issue that does not get enough attention in public discussions – in a time when national democratic institutions get too little attention, local democratic institutions get even less. It goes without saying that a federal state structure only works for the citizens if power is checked and balanced at each tier of government.

What form of government do state and local governments have?

Having strong and relatively autonomous regional and local governments is no panacea for a prosperous development. Local governments may be captured by local interest groups, and strong political parties – especially when the party system is nationalized. Like national parliaments, local government institutions may be not at all representative of the people. Local governments may be contaminated with corruption. Strong local political groups can capture local politics and enrich themselves at the cost of the community. A typical example would be a local politician changing land regulations for a dodgy, lucrative real estate deal. I guess anyone knows such cases.

Hence it is crucially important how state and local governments are organized and run. First of all, what system of government is used? What are the constraints on the executive? How representative are the people sitting in local governments? Under what electoral system are local politicians elected to public office? These are very important questions.

I think for federalism to be satisfactory for the communities, it is important that local power is not nested in a few people but shared among the community. As for entire countries, the same is applicable to state and regional governments: they can be run like presidencies or like parliamentary governments, or some hybrid form – and that choice is crucially important. 

If state and local governors face few executive constraints, then we must expect the same problems that arise in presidencies at the national level – like governing by decrees, unbalanced public policies, and even worse: kleptocracy.

How representative are regional and local governments?

Related to executive constraints, there is the question of political competition and representation of the citizens in local assemblies and councils. It is so crucially important that parties can compete fairly, and have a chance of being represented at the regional government level. Often electoral systems that are used at the national level are replicated at the subnational level. Thus also poor representation and unfair elections are replicated. A fair, proportional representation of citizens in regional and local governments is of utmost importance.

Ask yourself, do you think your local government represents your interests? Do you even know who represents you in your local or regional government?

My perception is that people in many countries are dissatisfied with their local governments, exactly because they don’t have the responsibilities needed for local development, because people feel they are irrelevant to their lives. Local governance is weak instead of strong and functional.

It seems that local governments are unable, or do not have the capacity to respond to people’s needs sufficiently. This is linked to poor representation of citizens and a lack of functionality of subnational governments. 

To summarize, since subnational parliaments are not representative in many countries, captured by strong political parties, hard to contest because of plurality-majority electoral systems, and regional executives are very powerful, facing few constraints, subnational politics become controlled by special interest groups. What you end up with is politicians using the system for rent seeking, not really caring for the people’s needs and providing public goods inefficiently.

It seems there is plenty of academic research and discussion on national government institutions, but much less on state and local government institutions, especially in developing countries. Where local governments could be the engine of prosperity and provide crucial fundamental government services like education and health care, deficient institutions prevent people from thriving. 

Fiscal Federalism

Finally, I want to say a few things about the public finance side of federalism. Federalism also gives subnational territories more financial autonomy – again depending on the specific implementation of it.

Besides re-election pressures for politicians, there are two important mechanisms that are essential for putting pressure on governments to become more efficient and fiscally prudent. The first is competition between regional and local governments, that was first described theoretically by Charles Tiebout in 1956. 

Competition between local governments puts pressure on the administration to provide an optimal level of public goods. Since citizens and companies can move between local governments, poor public good services lead both citizens and companies to leave a city, a region or municipality. Municipalities offer a set of public goods like education and local amenities, at a specific tax rate. Citizens thus move to the municipalities where they get the best offer in terms of taxes and public goods. When municipalities have the power to set their own tax rates, they can attract citizens and businesses alike by lowering taxes, or improving public service delivery instead – or both.

Citizens thus can vote with their feet,  meaning leaving a municipality (or country) when a citizen is not satisfied with the deal. This is what Albert Hirschman called Exit in his famous book Exit, Voice and Loyalty – in which he describes his Exit or Voice theoretical model. People can show their dissatisfaction either with their voice, hence engaging with political leaders, or exit the community.

Competition between jurisdictions is a powerful mechanism to make governments more efficient and thus deliver better results with available resources. If local governments have no autonomy and only receive directions from the central government, that element of competition is lost and governments will end up with a poorer production of public goods at a higher cost.

The other mechanism is fiscal autonomy. If governments have to raise their own funds, they become more fiscally prudent over time and also more efficient in providing services. Financial autonomy requires local governments to take out loans and or issue bonds, and to raise tax revenues. If a government operates more fiscally healthy, then it can get loans at a lower interest rate. The interest rate on credit is thus a strong incentive for an administration to keep the books in order and be a transparent, well managed organization. If a regional government is more fiscally prudent and trustworthy, people are also more willing to contribute to public goods by paying taxes. These are fundamental mechanisms in public finance and lead to more efficient governments. 

In contrast, revenues that accrue to a government from the outside distort these mechanisms. For instance transfers from the central government or natural resource revenues weaken the accountability between the government and the citizens. 

This leads me to the final principle I’d like to introduce that is well known among political scientists and political economists in the German speaking countries, interestingly it seems less known in other countries – I might be wrong. That is the principle of fiscal equivalence that was first described by Mancur Olson in the American Economic Review (1969).

Simply put, the principle of fiscal equivalence defines what public goods should be provided by which tier of government. The beneficiaries of a public service in a certain region should also be the ones deciding on its provision and financing it through taxes. 

Interestingly, this principle of fiscal equivalence is even written in the Swiss constitution since 2004. It says:

The community that benefits from a government service bears its costs.

The community that bears the cost of a government service shall decide over that service.

While adhering to this principle in practice is not always easy, it provides guidance on who benefits, who bears the cost, and who decides on a specific public provision. 

The principle of fiscal equivalence exemplifies the complexity and difficulties in the efficient production and allocation of public goods and services.

Conclusion

Wrapping up this episode, there are so many things that could be said about federalism, fiscal federalism, and decentralization. There are no simple answers. I truly believe though that federalism provides a solution for communities to govern themselves to a large extent. Federalism empowers communities to shape their own surroundings. Many public goods and services can be provided at the local level, according to local needs, preferences, and characteristics.

I believe that giving communities more decision making power and more autonomy will compensate for the apparent loss of control that people feel in a globalized world. Again, the interconnectedness of the world and trade brings many benefits, but I also believe that communities thrive and create strong social ties when given enough space to be inventive. More creative and responsible communities will again yield higher degrees of satisfaction, improve participation in local governance and care for the community.

I hope with this episode I have been able to convey some of the important aspects of federalism and also my view of what works. This is only the beginning of an extensive discussion of federalism and decentralization as part of the Rules of the Game podcast journey.