Annex 1 Case Study: Kenya
Kenya is a very diverse country, with 10 major and more than 30 minor ethnic groups. Needs are very different between the arid and semiarid North and the highlands; between the rural Northern Rift and the urban centers of Mombasa, Nairobi, and Kisumu; and between the coast and western Kenya.
Despite such diversity, Kenya was a very centralized state until the late 1990s. At independence in 1963, Kenya inherited a system of self-governing local authorities—relatively powerful and well-functioning organizations that delivered a wide range of services. Over the years, the role of the local authorities progressively weakened; for example, in 1969 the Transfer of Functions Act transferred major services from local authorities to the central government. However, in the late 1990s the pendulum started to swing the other way, owing to widespread dissatisfaction with the high concentration of political and economic power in the hands of a few, which had resulted in a spatially uneven and unfair distribution of resources and corresponding inequities in access to social services.
A decade of relatively piecemeal decentralization began in the late 1990s. The authorities gradually introduced geographically earmarked funds in an attempt to address spatial inequality. The most notable were the Local Authority Transfer Fund (1998), the Constituency Development Fund (2003), the Rural Electrification Fund (2006), and the Road Maintenance Levy Fund (2007). But despite these efforts to address inequality in resource distribution, overall spending by the local governments amounted to only about 1 percent of GDP by the late 2000s.
Following the adoption of a new constitution in 2010, Kenya launched a major devolution. Efforts to adopt a new constitution had been thwarted in 2005, but the 2008 postelection violence triggered popular support for a major overhaul of subnational powers to reduce ethnic tensions. The adoption of a new constitution in September 2010 introduced a structure of governing power that defined the public sector as comprising two levels of government: a national government and 47 elected county governments (which replaced some 175 local governments). The main elements of the devolution were (1) a significant transfer of political power to county governments, whose officials are elected every five years; (2) greater administrative power for subnational governments, with the constitution assigning specific functions to counties but allowing the national government to retain power to impose standards and norms on counties and to intervene if a county fails to perform or comply with PFM laws; and (3) significant transfer of fiscal power, with counties given the discretion to formulate their own budgets. Funding for the counties is coordinated by the Intergovernmental Budget and Economic Council, which is chaired by the vice president and consists of 47 county finance ministers plus the cabinet secretary for the national treasury and some key independent commissions.
Expenditure Assignments
Kenya’s devolution largely follows international practice regarding the intergovernmental division of responsibilities. The functions assigned to the national level relate mainly to policy and standard setting, and the provision of public goods such as national security and macroeconomic policy, while county-level functions focus on policy implementation and local service delivery in four key sectors (health, agriculture, transport, and water). The counties are responsible for all personnel engaged in these functions. When it comes to health, for example, the 47 county governments are responsible for managing all aspects of service delivery, while the central government is responsible for regulation through policy formulation and monitoring. In education, only preprimary education has so far been devolved, unlike other decentralized countries that overwhelmingly devolve at least primary education.
Kenya took a big-bang approach to the devolution of spending to counties. The new constitution envisaged that functions would be transferred gradually over a three-year period, as county governments developed the capacity to assume them. However, following strong lobbying by county governors, the Transition Authority approved the transfer of almost all functions to counties in one go, which quadrupled spending at the county level within one year. Even though roles and responsibilities were elaborately outlined, in practice the transition from national to county governments was marred by inconsistency, poor understanding of the system, management challenges, and lack of coordination between the national and county governments.
The rapid pace of devolution contributed to a significant increase in overall government spending and created challenges for service delivery. Total spending in the year devolution was rolled out increased by about 2 percent of GDP compared with the pre-devolution period, putting pressure on fiscal balances. In addition, the fast pace of devolution adversely affected service delivery, especially in the health sector, and contributed to poor working conditions at the county level, including delays in salary payments. The service delivery issues have largely been addressed, and there is evidence lately of improved indicators in services provided by counties, such as gross enrollment in preprimary education, student enrollment in youth polytechnics, births registered in health facilities, and access to maternal health care. Nevertheless, frequent expenditure reallocations persist, suggesting challenges in prioritizing expenditures and constructing reliable forward estimates within a sustainable fiscal framework.
Containing current spending in counties has proved difficult. Subnational governments are required to allocate 30 percent of their budgets for development spending. While development spending averaged about 35–40 percent during fiscal years 2013/14–15/16 (see Annex Figure 1.1 for the breakdown in 2015/16), about a third of the counties missed the target in 2015/16 (Annex Figure 1.2). At the same time, it has been difficult to contain wage spending, which amounted to about 40 percent of county spending in 2015/16, an increase of about 15 percent from the previous year (a nearly double-digit increase in real terms). The high wage bill of counties reflects a large number of staff inherited from the previous local governments, new recruitment by counties (sometimes above the pay scales recommended by the Salaries and Remuneration Commission), and high wage increases for county assembly members and support staff.
Kenya: County Expenditure by Economic Classification, 2015/16
(As share of total county spending)
Citation: Departmental Papers 2018, 009; 10.5089/9781484358269.087.A999
Source: Controller of the Budget, Kenya.Kenya: Composition of Spending by Counties, 2015/16
Citation: Departmental Papers 2018, 009; 10.5089/9781484358269.087.A999
Source: Controller of the Budget, Kenya.Own Revenue
The assignment of own revenue sources to Kenya’s counties is in line with best practice. The constitution establishes that only the central government can impose income taxes, value added taxes, custom duties, and excises. The constitution assigns to county governments the property tax, entertainment tax, and trade licensing fees. The Public Finance Management Act of 2012 allows county governments to collect fees for the services they provide.
Weak collection of county own revenues has contributed to higher rates for taxes and fees, which could potentially have a negative impact on investment. Overall, the collection by counties of own revenue currently amounts to only about 0.5 percent of GDP, which is equivalent to about 10 percent of total spending by counties. Property taxes have the potential to provide significant revenues to counties. However, as in most LICs, cadastral information is weak in Kenya, especially away from the large urban centers, and valuation rolls are incomplete and out of date. As a result, collection of property taxes is low, especially in the more rural counties were land is not titled, values are low, and citizens have a limited capacity to pay. Own revenue in Nairobi and Mombasa, the two largest cities in Kenya, is about 50 percent and 35 percent of their respective total spending, but it is below 15 percent in most other counties (Annex Figure 1.3). Faced with these difficulties, many counties have imposed higher rates for taxes and fees. In Nairobi, for example, the county authorities raised an array of fees, including those for business permits; a number of licensing fees (for example, for hygiene, parking, and transport); building permits; and advertising on billboards (Economist Intelligence Unit 2014). These increases may have adverse effects on Kenya’s business environment, and the central authorities (both Parliament and the national treasury) have called for caution by the county authorities going forward.
Kenya: County Size and Capacity to Collect Own Revenue
Citation: Departmental Papers 2018, 009; 10.5089/9781484358269.087.A999
Source: Controller of the Budget, Kenya.Transfers
The constitution requires that counties receive no less than 15.5 percent of the previous year’s central government’s audited revenue. Of these, 15 percentage points should be in the form of unconditional transfers. The remaining 0.5 percentage points are to be transferred into the Equalization Fund, which is used to provide basic services including water, roads, health facilities, and electricity to marginalized areas. The actual amount of unconditional share transfers to counties is set every year as part of the annual budget process, based on the proposal by the Commission on Revenue Allocation. For the first four years the new fiscal decentralization system was in operation—2013/14 through 2016/17—the transfers to counties were much higher than the minimum required under the constitution (over 20 percent of the previous year’s audited revenues).
The formula for allocating unconditional transfers among counties is trans-parent and highly equitable. The unconditional share transfers are allocated to counties based on a formula approved by Parliament (Annex Table 1.1). While not grounded in a detailed estimation of individual county needs, the formula has the merit of being highly transparent and highly redistributive. Indeed, the share of equitable transfers varies from about half of spending in Nairobi County to as much as 95 percent in the poorest counties. During the first year of implementation (2013/14), transfers were made to counties even though some functions remained with the national government, resulting in financial pressures on the central government.
Kenya: Formula for Transfers to Counties
(percent of total)
Kenya: Formula for Transfers to Counties
(percent of total)
| 2012/13–15/16 | 2016/17–18/19 | |
|---|---|---|
| Population | 45 percent | 45 percent |
| Equal share | 25 percent | 25 percent |
| Poverty level | 20 percent | 18 percent |
| Land area | 8 percent | 8 percent |
| Fiscal effort | 2 percent | 1 percent |
| Development needs | — | 1 percent |
| Personal emoluments | — | 2 percent |
Kenya: Formula for Transfers to Counties
(percent of total)
| 2012/13–15/16 | 2016/17–18/19 | |
|---|---|---|
| Population | 45 percent | 45 percent |
| Equal share | 25 percent | 25 percent |
| Poverty level | 20 percent | 18 percent |
| Land area | 8 percent | 8 percent |
| Fiscal effort | 2 percent | 1 percent |
| Development needs | — | 1 percent |
| Personal emoluments | — | 2 percent |
The constitution stipulates that the formula for the equitable share transfers be reviewed by Parliament every five years.
Borrowing
The Kenyan authorities have established several fiscal rules for county borrowing with a view to maintaining fiscal sustainability. The 2010 constitution states that borrowing by counties (except for short-term borrowing for liquidity management) requires government guarantees and is limited to financing development projects (the golden rule). In addition, the 2015 amendments to PFM regulations establish limits on both the stock of gross debt and debt service for counties (up to 20 percent and 15 percent, respectively, of the county’s last audited revenues); require annual publication of county financial accounts; and specify financial and criminal penalties for the violation of PFM regulations.
Annex 2 Case Study: Nigeria
Nigeria became a federal state in 1967 when four regions were divided into 12 states and three levels of government were established: federal, state, and local. In an effort to diffuse regional and ethnic rivalries against a background of significant ethnic and cultural diversity in the country, the government increased the number of states over time, reaching the current level of 36 (plus the federal capital) in 1996.
Intergovernmental relations in Nigeria have been characterized by the occasional fare-up of tensions between the oil-producing states and the (poorer) non-oil-producing states, with the former demanding to retain more of the oil revenue generated locally and the latter calling for a larger redistribution of oil revenues. The Biafra War (1966–70) actually broke out over disagreement on how to share oil revenue. Over time, the share of oil revenue going to the oil-producing states has declined, from 50 percent right after independence to 13 percent now.
Expenditure Assignments
The assignment of responsibilities among the various tiers of the Nigerian federal system is set out in the Nigerian Constitution and broadly reflects the pattern in modern federations. The federal government is responsible for defense, foreign affairs, law and public order, railways, posts and communications, national roads, and air and sea travel. The states provide education, health, and public works within their jurisdictions. The roles of local government vary widely. In most cases, they act as agents of the respective state government, although some are responsible for the provision of urban infrastructure and related services, such as water, sanitation, and waste collection (Ahmad and Singh 2003).
The state governments have principal responsibility for basic services such as primary health and primary education. However, while most health spending has been devolved to subnational governments, the federal government retains responsibility for public goods such as immunization and communicable diseases. In education, the federal government is still responsible for budgeting and hiring, but local governments are responsible for operating and maintaining schools, and are often involved in hiring teachers.
Own Revenue
The own revenues for the states include the personal income tax, 13 percent of oil proceeds for oil-producing states (Annex Table 2.1), stamp duties, road taxes, business registration fees, and lease fees for state lands. While the fees and other levies are set by the states, the rates and bases of the main taxes are set at the federal level. Own revenues for local governments include the property tax and fees charged for the use of motor parks and for sewage collection. Except for the VAT, the rates and bases of other local taxes and fees are set by the local government or by the respective state. As for the VAT, half of the VAT allocation is distributed according to population, 30 percent in equal amounts for all governments, and 20 percent on the basis of the actual collection in each jurisdiction.
Nigeria: Federal-State Shares of Oil Proceeds from Distributable Pool
(in percent)
Nigeria: Federal-State Shares of Oil Proceeds from Distributable Pool
(in percent)
| Year | Producing State | Federation Account |
|---|---|---|
| 1960–69 | 50 | 50 |
| 1969–71 | 45 | 55 |
| 1971–75 | 45 (minus offshore) | 55 (plus offshore) |
| 1975–79 | 20 (minus offshore) | 80 (plus offshore) |
| 1979–81 | — | 100 |
| 1982–92 | 1.5 | 98.5 |
| 1992–99 | 3 | 97 |
| 1999–Current | 13 (minus offshore) | 87 |
Nigeria: Federal-State Shares of Oil Proceeds from Distributable Pool
(in percent)
| Year | Producing State | Federation Account |
|---|---|---|
| 1960–69 | 50 | 50 |
| 1969–71 | 45 | 55 |
| 1971–75 | 45 (minus offshore) | 55 (plus offshore) |
| 1975–79 | 20 (minus offshore) | 80 (plus offshore) |
| 1979–81 | — | 100 |
| 1982–92 | 1.5 | 98.5 |
| 1992–99 | 3 | 97 |
| 1999–Current | 13 (minus offshore) | 87 |
The sharing of oil proceeds with the oil-producing states has exposed these states to large swings in revenue and has undermined the regional income equalization objective. For example, Ahmad and Singh (2003) find that a 10 percent fall in the oil price caused a 20 percent decline in federal oil revenues but a reduction by more than a third in oil-producing states. This has interfered with the budgeting process in the oil-producing states and exposed them to large oil price declines, requiring a partial bailout in 2015 (as discussed in Section 4).
Transfers
Intergovernmental transfers in Nigeria come from the Federation Account, which is financed by oil revenues, the proceeds of corporate income tax, custom duties, and excise taxes (Ahmad and Singh 2003).1 The states and local governments receive 26.7 and 20.6 percent, respectively, of the amount deposited in the Federation Account. The actual allocation to each state and local government is made based on the formula specified in Annex Table 2.2. The VAT revenue is also shared, based on a different formula: 15 percent to the federal government, 50 percent to the states, and the remaining 35 percent to local governments.
Nigeria: Formula for Federal Account Allocation to States and Local Governments
Nigeria: Formula for Federal Account Allocation to States and Local Governments
| Indicator | Percent |
|---|---|
| Equal Share | 40 |
| Population Size | 30 |
| Social Development Factors | 10 |
| Internal Revenue Effort | 10 |
| Landmass | 5 |
| Type of Terrain | 5 |
Nigeria: Formula for Federal Account Allocation to States and Local Governments
| Indicator | Percent |
|---|---|
| Equal Share | 40 |
| Population Size | 30 |
| Social Development Factors | 10 |
| Internal Revenue Effort | 10 |
| Landmass | 5 |
| Type of Terrain | 5 |
Borrowing
The main borrowing rules for the state and local governments in Nigeria are set in two key acts of 2007, the Fiscal Responsibility Act and the Investment and Securities Act. The federal government and the 36 state governments also approved a National Debt Management Framework agreement for 2013–17 that includes additional guidelines for external and domestic borrowing.
Fiscal Responsibility Act: (1) Empowers the president, subject to approval by the National Assembly, to set overall limits on consolidated debt of the federal and state governments (these limits are proposed by the Federal Debt Management Office as part of the annual budget exercise); (2) limits public borrowing to capital projects, with no tier of government allowed to borrow if it is in arrears in debt service; and (3) requires that any state government or its agencies may obtain external loans only through the federal government and that such loans must be supported by a federal government guarantee approved by the National Assembly
Investment and Securities Act: Allows state and local government borrowing only if the total amount of loans outstanding at any particular time, including the proposed loan, does not exceed 50 percent of actual revenue for the preceding year
National Debt Management Framework agreement for 2013–17: Sets guidelines for contracting and reporting commercial debts by the states and local governments2
Annex 3 Case Study: South Africa
Fiscal decentralization in South Africa increased significantly shortly after the collapse of apartheid in 1994. The increase was the product of political com-promise rather than the reflection of economic or fiscal considerations and aimed at preventing further social strife. Owing to strong political pressures to decentralize at a rapid pace in the immediate post-apartheid period, the authorities did not have the luxury of carefully sequencing the devolution process in line with the pace of capacity strengthening at the local level.
South Africa retained the unitary form of government in the post-apartheid period but adopted a fairly decentralized system. The constitution established three spheres (levels) of government—national, provincial, and municipal. The largest metropolitan areas are governed by metropolitan municipalities, while the rest of the country is divided into district municipalities, each of which consists of several local municipalities. Currently, there are nine provinces, eight metropolitan municipalities, 44 district municipalities, and 226 local municipalities in South Africa. The national government is responsible for policy development, national mandates, setting national norms and standards for provincial and municipal functions, and monitoring implementation for concurrent functions. The constitution also establishes cooperative governance among the three levels of government, which mandates negotiation rather than litigation to resolve political and budgeting problems among levels of government. Negotiation is supported by numerous intergovernmental forums that facilitate cooperation and consultation in the budget process (Momoniat 1998).
Expenditure Assignments
The division of powers and functions among the various levels of government are clearly defined in the constitution. Specifically, the national and provincial governments are concurrently responsible for key social services, such as education, health, welfare, and housing. In practice, the national government determines the policy, and the provincial governments are responsible for implementation. Provincial governments are exclusively responsible only for provincial roads, while local governments are responsible for local services, such as access roads, streetlights, garbage collection, sanitation, and town planning.
Government employees at all levels receive similar remuneration for similar qualifications. The public servants employed by the national and provincial governments belong to a single public service, which ensures similar remuneration for similar rankings, irrespective of functions. Local government employees are not part of the national public service, but the high level of unionization and collective bargaining has caused their pay to converge with that of comparable employees at the national and provincial levels (Momoniat 1998).
Most provinces initially struggled with the new system because of a lack of experience in managing public finances. Because the budget process had been centralized before 1994, the provinces had to develop the capacity to budget as the new, more decentralized, budget system began to be implemented. In addition, the newly established provincial treasuries were not in a position to monitor or check expenditures for a number of years, and the provinces struggled to implement nationally determined policies. As a result, provinces’ treasuries were unable to curb spending in line with approved budgets, and there were long delays before financial statements were completed. The national government was forced to impose stringent measures in the provinces, such as employment freezes and cutbacks in non–social security expenditure. Over time, a monthly reporting system was created and, beginning in the late 1990s, the national treasury helped provinces draw up realistic budgets. These simple but critical measures helped dramatically turn around provincial finances; the provinces stabilized their personnel expenditure and began to shift funds toward nonpersonnel budgets and debt payments. The implementation of a multiyear budget beginning in 1998 also helped provinces prepare more realistic budgets. Another impetus for reform emerged through benchmarking among the provinces, which identified cost drivers and emphasized the need for additional reforms in lagging provinces.
Own Revenue
The taxing powers of the three levels of government are consistent with best practice. Only the national government may impose corporate income tax, VAT, excises, and custom duties. The provincial governments may impose surcharges on the personal income tax and fuel levy, but this is subject to national objectives and requires consultations with the national government. Municipal governments have more taxing powers than the provincial governments; they can charge property taxes and generate revenue from user charges on the provision of electricity and water.
The fiscal autonomy of the provinces is low, whereas that of municipalities is substantial. Only a small fraction of the provinces’ revenue derives from taxes (about 3 percent of provincial budgets in 2014/15); transfers from the central government fill the gap, with provinces having very little autonomy to make spending allocation decisions. In this sense, the role of provinces is similar to that under a deconcentrated system. The municipalities, on the other hand, have significant autonomy to make spending allocation decisions with oversight from the national government. Property taxes and utility fees account for over 90 percent of the municipalities’ overall revenue.
Transfers1
There are two types of transfers to subnational governments in South Africa: equitable share transfers and earmarked transfers. In recent years, equitable share transfers have accounted for about 80 percent of total transfers to provinces, whereas for municipal governments the share is roughly 50:50 (including general levy sharing with metropolitan municipalities). The formulas for both types of transfers are largely population-driven, and are reviewed and updated with new data from census surveys.
Provincial and municipal government equitable share allocations are based on estimates of nationally raised revenue. If this revenue falls short of the estimates in a given year, the equitable shares of the provinces and the municipal government will not be adjusted downward. Allocations are assured (voted, legislated, and guaranteed) for the first year and are transferred according to a payment schedule. In the interest of longer-term predictability and stability, estimates for an additional two years are published with the annual proposal for appropriations. In the 2015/16 budget, after providing for debt costs and the contingency reserve, about 48 percent of spending was allocated to the national government, 43 percent to provincial governments, and 9 percent to municipal governments.
The provincial equitable share formula uses a number of services for the determination of the shares for provinces. For the 2014/15 budget, for example, the formula components were set out as follows:
An education component (48 percent) based on the size of the school-age population (ages 5–17) and the number of learners (grades R through 12) enrolled in public schools
A health component (27 percent) based on the risk profile of each province and its health system caseload
A basic component (16 percent) derived from each province’s share of the national population
An institutional component (5 percent) divided equally among the provinces
A poverty component (3 percent) based on income data (This component reinforces the redistributive effect of the formula.)
An economic output component (1 percent) based on GDP-R data (GDP-R is a measure of regional gross domestic product produced by Statistics South Africa.)
A new formula for the local government equitable share was introduced in 2013/14. This followed a review of the previous formula by the national treasury, the Department of Cooperative Governance, and the South African Local Government Association, in partnership with the Financial and Fiscal Commission and Statistics South Africa. The new formula is based on data from the 2011 Census, which resulted in major changes to some allocations. To smooth the fluctuations, the new allocations were phased in over a five-year period ending in 2017/18. The formula uses demographics and other data to determine each municipality’s share of the local government equitable share. It has three parts, made up of five components:
The first part of the formula is the basic services component, which provides for the cost of free basic services for poor households.
The second part enables municipalities with limited own resources to afford basic administrative and governance capacity, and perform core municipal functions. It does this through three components: (1) the institutional component, which provides a subsidy for basic municipal administrative costs; (2) the community services component, which provides funds for core municipal services not included under basic services; and (3) the revenue adjustment factor, which ensures that funds from this part of the formula are provided only to municipalities with limited potential to raise their own revenue.
The third part of the formula provides predictability and stability through a correction and stabilization factor, which ensures that all the formula’s guarantees can be met.
There are four types of provincial conditional grants. They are (1) general grants that supplement various programs partly funded by provinces, such as infrastructure and central hospitals; (2) specific grants to fund responsibilities and programs implemented by provinces; (3) allocations-in-kind, through which a national department implements projects in provinces; and (4) transfers to provinces to help them deal with a natural disaster.
Borrowing
Borrowing is allowed by all subnational units but is subject to central government regulation and oversight by the Ministry of Finance. The South African Constitution allows provincial and local governments to borrow for capital spending and bridging purposes only; in practice, only municipalities borrow, and the major cities have issued municipal bonds. Macro-fiscal risks have remained under control in South Africa despite a substantial devolution of expenditure, thanks to sound national fiscal policy and effective management of subnational financial policies by the national treasury. Legislation prohibits central government guarantees for borrowing by the municipalities. In case of default by the municipalities, the central government has the right to intervene to clarify the rights of lenders.
To date, there have not been any defaults of subnational governments in South Africa that would have required a bailout from the national government. In the early years of decentralized government, some subnational governments showed a deficit bias and expected the national government to provide support when they got in trouble. In the mid-1990s, for example, Johannesburg did not adjust its spending to lower revenue, and the national government had to intervene to enforce fiscal discipline and design a restructuring plan to turn the city’s finances around. Over time the central government has adopted a proactive approach to complement the transparent mechanism for bankruptcy procedures of municipalities; it includes tough sanctions, such as a substantial loss of political autonomy for municipalities in case of default. So far this approach has been quite successful in addressing moral hazard that could lead to excessive borrowing at the subnational level and thus helping avoid defaults by subnational governments.
Annex 4 Case Study: Uganda
Fiscal decentralization in Uganda started following the end of the civil war as part of a broader strategy to reduce ethnic tensions. At the time of independence in 1962, Uganda had a deconcentrated system of government, in which local governments were responsible for significant expenditure functions but effective administrative control was retained by the center. However, this relatively centralized system was dismantled shortly after independence and replaced by a very centralized one. Following the end of the civil war in 1986, a gradual process of fiscal decentralization started; it was formalized in 1993 through the Local Government Statute, enshrined in the 1995 Constitution, and later in the Local Government Act of 1997 and the Local Government Financial and Accounting Regulations of 1998.
The number of local governments and overall number of staff increased rapidly with decentralization, reflecting political pressures. To achieve national consensus among various groups, the central government enabled a proliferation in the number of districts (originally the highest government tier). By 2005, the government also had reached agreement with regional and tribal leaders to establish regions—an intermediate tier of local authority comprising districts that essentially represent tribal kingdoms. Uganda has four regions (Central, Western, Eastern, and Northern) that are divided into districts. In 2002 there were 56 districts; by 2010 there were 111 districts plus Kampala. At the same time, there was an upward drift in government staff outside the ministerial civil service, including staff of special independent commissions, secondary and tertiary schools, police, prisons, and central government staff delegated to districts (Langseth 1995; Golola 2001; Kjaer 2004).
Spending Assignments
The allocation of sectoral expenditure responsibilities between central and local authorities is broadly along the lines suggested by theory. Subnational authorities are charged with delivering basic services that directly affect their communities, which strengthens the link between delivery and accountability. These services include (1) primary education; (2) primary health care and district hospitals; (3) rural water services; (4) most agricultural extension services; and (5) district, feeder, and municipal roads.
Subnational governments have little flexibility to make significant resource allocation decisions, reflecting a deconcentrated rather than a devolved sys-tem of government. The amount of spending carried out by the subnational governments proceeded relatively fast, accounting for about 35 percent of overall spending by the mid-2000s (excluding donor projects). But much of this devolution was implemented through a detailed conditional grant system decided at the central level. This allowed close supervision of spending by the center but did not encourage the development of horizontal accountability between the local governments and their constituencies, which undermined local autonomy.
Own Revenue
The assignment of revenue sources to subnational governments is broadly in line with best practice. The main local revenue instruments are a property tax and a series of market dues. A graduated income tax applied to individuals (which had been the main source of revenue for local governments) was suspended in the mid-2000s.
The revenue capacity from these sources is limited. The share of revenue collected at the subnational level represents less than 5 percent of local spending, reflecting a weak cadaster system, especially outside the main urban centers, and a large extent of informality in the economy. The subnational authorities do not have the ability to modify tax bases or tax rates.
Transfers
Central government transfers to subnational governments are largely conditional; that is, earmarked for the provision of specific services. Over time, conditional grants have grown in share (from 62 percent to 89 percent of all grants) and in number (from 16 in fiscal year 2002 to 38 in fiscal year 2011), and have become more restrictive. These grants are conditional upon the provision of specific services, such as health and education. The remaining 20 percent are equalization and unconditional grants. In practice, the unconditional transfers are used primarily to cover administrative costs, including wages and allowances at the local level, rather than to deliver direct services to the public.
The formulas used to determine the amount of grants to each subnational government are complicated, which undermines the transparency of the system. Both types of transfers are allocated on the basis of formulas that include population and poverty indicators. Currently, 38 conditional grants are made each year to each local government, and each grant has its own formula. The overall amount of unconditional grants varies quite a bit from year to year. The formula for these grants takes into account population (85 percent) and land area (15 percent).
Borrowing
Local government use of formal debt financing has been very limited in Uganda. Borrowing by local governments is permitted by law, but it has a very stringent cap (25 percent of locally generated revenue) and is subject to central government conditions and approval. This system has succeeded in containing formal indebtedness by local authorities.
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Fiscal decentralization is generally defined as the authority over raising revenues and making decisions on spending and borrowing at the subnational level. The authority of subnational governments to make such decisions is typically broad in a devolved system of government (where decision making is transferred to elected subnational governments) and very limited in a deconcentrated system (where subnational governments are upwardly accountable to the central government and local officials are typically appointed, not elected).
The amount of oil revenue transferred to the Federation Account is equivalent to 87 percent of overall revenue minus first charges (including external debt service, government share in the production cost of oil, the cost of government-sponsored projects, and the expenditure of the National Judiciary Council), which have varied over time depending on the economic priorities of the federal government.
For more details, see National Debt Management Framework for 2013–17.
For details on the formulas used to determine transfers to the provincial and municipal governments, see the South Africa Treasury webpage, http://mfma.treasury.gov.za/Media_Releases/LGESDiscussions/Pages/default.aspx.
