Environmental Engineering Reference
In-Depth Information
propensity for additional borrowing. Therefore, to avoid excessive interest costs and
to ensure
financial sustainability, debt has to be issued and managed with prudency.
Although subnational governments
'
debt is frequently constrained by law, several
countries face problems of
fiscal indiscipline. When lower levels of government are
highly dependent on intergovernmental transfers, they tend to accumulate de
cits
and debt. This is known as the common pool problem, and results from the fact that
subnational governments take credit and perceive the bene
ts associated with their
expenditure choices, but fail to fully internalize the costs that all national taxpayers
must bear. In countries where the central government is expected to bail-out sub-
national governments in
financial distress, the incentive to accumulate debt is
aggravated (soft-budget constraint problem). Political
issues may also explain
subnational governments
indebtedness. During electoral campaigns, incumbent
politicians may engage in opportunistic
'
fiscal policies by increasing expenditures
and reducing taxes, in order to convey competence and win the election (Rogoff and
Sibert
1988
). Politicians may also extract rents while in of
ce and, when expecting
to be ruled-out of of
ce, they may use debt as a strategic variable to constrain the
options of the opposition candidate. Government fragmentation and political
instability are also likely to contribute to loose
scal
nances. Furthermore, con-
flicts among generations may also lead to an increase in debt, as the older gener-
ations leave a negative bequest to the younger ones.
To prevent excessive indebtedness by subnational governments, several coun-
tries have implemented numerical targets for budgets, including balanced-budget
rules. However,
fiscal rules are hard to enforce and they may generate incentives for
creative accounting. The context in which they are implemented, namely the
existence of good budgeting institutions, is crucial for their effectiveness.
6 Importance of Budgeting for Sound Fiscal Policy
A budget is a fundamental tool for any organization to manage its resources and
activities properly and, therefore, for the accomplishment of its objectives. While in
the private sector, pro
ts are typically the target, for public institutions the main
objective is the improvement of population welfare, which is much harder to
quantify.
For subnational governments, budgeting is an exercise of planning, intended to
balance revenues and expenditures and encounter the best use for the available
resources, in order to satisfy the needs of the community better. The budget de
nes
which activities will be implemented (and consequently the type, quantity and
quality of the goods and services provided to citizens) and which resources to use to
fund them, as well as how those funds will be obtained. The budget also has a
political function since it involves negotiation between political parties. The
executive body of government is responsible for the elaboration of the budget
proposal, but the proposal usually has to be approved in a committee formed by
elected representatives. During and after its execution, comparisons between what
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