Growth effects of fiscal decentralization with weak economic motivation: the case of South Korea

Abstract

In this study, we apply an extended Granger causality test to examine whether fiscal decentralization in South Korea creates pro-growth effects. Our results show that the pro-growth effects in South Korea are significant at the provincial level, only from a revenue perspective. This result may suggest that strengthening local taxation power (revenue-centered decentralization) can better serve a local economic development goal than simply loosening use-restrictions on inter-governmental transfers (expenditure-biased decentralization). At the city and county level, however, no such pro-growth effects exist; we instead find partial evidence in support of the reverse causality—economic growth precedes revenue decentralization. This conflicting result seems to be associated with scale economies in public goods provision and the gap in administrative capacity between provincial and lower-level local governments.