The Reluctant Public Sector Transition in the

Slovak and Czech Republics

Phil Bryson and Gary Cornia

The Public Sector Under Central Planning

• All public goods and services provided under central government and its ministries.

• No traditional subnational governments, all decisions pertaining to taxation and public services made by central government.

The Public Sector Under Central Planning

• The only subnational activities were “state administration,” the implementation of the central plan for local governments by agents answering to the central government.

• Czechoslovakia began the attempt to decentralize its fiscal system immediately after the transition began in 1990. It established a taxation and budget system of a more western-European type.

Fiscal decentralization in the Czech and Slovak Republics has only begun to establish local autonomy.

The “Velvet Divorce” of 1993 set the new Czech and Slovak Republics on independent development paths.

In Slovakia, unusual politics resulted in sparse revenue transfers, but somewhat greater fiscal independence for municipalities through the property tax.

The Czech Republic, more generous to its municipalities, has not let local governments develop autonomously.

Property tax, the best vehicle for generating independent funds, remains largely symbolic, as under central planning.

The Decentralization ConflictWhy Decentralization is Essential for

developing democracy• It makes the decisions of public

servants more transparent,• It permits citizens to participate in

self-government at local level• They participate at low cost, and

more effectively (Oates, 1998).

The Decentralization Conflict

Drawbacks of decentralization: • Some local governments are small

and poorly endowed with resources

• Municipalities tend to reduce funding when service benefits spill over into contiguous areas. Local governments will respond in their narrowly-perceived self interest by under-providing those services.

Need for Property Tax Revenues

• Administrative and Practical Problems of the property tax

• The property tax is highly visible and transition country politicians find it threatening. The citizenry of transition countries are not accustomed to visible taxation and can be expected to oppose it.

Need for Property Tax Revenues

• Other independent sources of revenue for subnational governments are insufficient: needs are great.

• Revenues from local user fees collected for public services and the proceeds from privatization, for example, help, but are insufficient.

Need for Property Tax Revenues

• Administrative and Practical Problems of the property tax

• The difficulty of establishing market-oriented property values in the absence of a functioning real estate market (Bertaud and Bertrand, 1994)

• The uneven distribution of the property tax base (Netzer, 1966).

Need for Property Tax Revenues

• Administrative and Practical Problems of the property tax

• the property tax remains critically under-used (Dunn and Wetzel, 2000).

• Especially in the transition countries, this can be an impediment to successful decentralization.

Need for Property Tax Revenues

• The municipalities in transition countries remain poorly financed.

Advantages of the Property Tax

• It is immobile, stable, potentially neutral, and (as a direct tax) visible to taxpayers.

Positive Property Tax Attributes

• The property tax is stable (it provides fairly constant revenues independent of the business cycle).

Positive Property Tax Attributes

• The property tax is immobile (taxpayers can’t evade it by engaging in transactions just beyond a relevant political border).

Positive Property Tax Attributes

• This tax is potentially neutral. Its imposition does not cause changes in the utilization of the services of taxed properties.

Positive Property Tax Attributes

• The tax falls on taxpayers who presumably have the means and the ability to pay (they are home owners and property holders).

Positive Property Tax Attributes

Excise taxes, for example, can be regressive, representing a larger portion of lower than of higher incomes.

Positive Property Tax Attributes

• As local public services improve and increase property values, the beneficiaries are required to pay for the increased value.

Positive Property Tax Attributes

• As a direct tax, the property tax is visible to taxpayers.

• The tax’s moral hazard problems become apparent in comparing Czech and Slovak local budgets.

• Because of greater fiscal need, the Slovak municipalities have demonstrated what can be achieved through greater property tax collection effort.

Table 1Number of Subnational Government Units

Selected Transition Economies

CountryType

Government NumberCountry

PopulationMunicipalities per 10,000

Albania Municipality 356 3,400,000 1.05

Bulgaria Municipality 255 8,900,000 .29

Czech Municipality 6234 10,300,000 6.05

Hungary Municipality 3148 10,300,000 3.06

Poland Municipality 2459 38,400,000 .64

Romania Municipality 2948 22,700,000 1.30

Russia Municipality 2000 149,000,000 .13

Slovakia Municipality 2781 5,300,000 5.25

Ukraine Municipality 619 52,100,000 .12

Source: Calculated from Bird, Ebel, and Wallich. See also respective statistical yearbooks.

Table 1Number of Subnational Government Units

Selected Transition Economies

CountryType

Government NumberCountry

PopulationMunicipalities per 10,000

Albania Municipality 356 3,400,000 1.05

Bulgaria Municipality 255 8,900,000 .29

Czech Municipality 6234 10,300,000 6.05

Hungary Municipality 3148 10,300,000 3.06

Poland Municipality 2459 38,400,000 .64

Romania Municipality 2948 22,700,000 1.30

Russia Municipality 2000 149,000,000 .13

Slovakia Municipality 2781 5,300,000 5.25

Ukraine Municipality 619 52,100,000 .12

Source: Calculated from Bird, Ebel, and Wallich. See also respective statistical yearbooks.

Table 4Moral Hazard: Property Tax Policy and

Administration

POLICY DEVELOPMENT

Central Government

ADMINISTRATION

Central GovernmentComplete centralization benefits from resources, technical support, and policy experience. There is little incentive to improve administrative outcomes. The result is a lagging effort on the part of central administrators. Discovery and audit are especially underdeveloped. Likelihood of moral hazard problems is high.

Sub-National GovernmentSub-national governments have substantial input on policy issues but there is less chances to monitor the behavior of the administrator of the property tax. The potential for moral hazard problems is moderate.

Sub-NationalGovernment

Centralization of policy facilitates development of policy. Local governments benefit directly in the outcomes of the administrative processes. Revenues collected can be used by the local government. The potential for moral hazard problems is low.

Complete decentralization diminishes the uniformity between taxing jurisdictions, creates potential for tax wars, and has uneven resources assigned to policy. To overcome potential policy problems administrators rely on strong administrative responses that only exacerbate the problems of the tax. Likelihood of moral hazard problems is high.

TABLE 5

National and Local Budgets:Czech and Slovak Republics

SLOVAK REPUBLIC

1993 1994 1995 1996 1997 1998 1999 2000

Local Budgets*19.

5 19 21 21.5 23.5 22.7 21.3 24.8

Local as % of National Budget

12.97 13.65 12.88 13.2 13.37

12.68 11.9 11.07

State Grants to Local Budgets* 1.5 1.1 1.2 1.3 1.8 2.08 2.24 2.77

Total Local Revenues* 21 20.1 22.2 22.9 26.7 25.9 24.2 27.4

Local Budget Expenditures*

19.3 19.1 18.9 21.9 25.3 25.8 23.9 26.5

Real Estate Tax* 1.6 1.79 1.73 2.14 2.61 2.4 2.72 2.87

CZECH REPUBLIC

1 993 1994 1995 1996 1997 1998 1999 2000

Local Budgets*91.

1 111 129.1 161.72 145.3157.

2 187.7 181.8

Local as % of National Budget

25.45 28.43 29.34 33.5 30.3 30.8 30.9 32.6

State Grants to Local Budgets*

27.03 29.25 33.28 59.44 35.87

37.39 41.43 46.05

Total Local Revenues* 101 111 129 162 147 162 188 181

Local Budget Expenditures*

90.1 112.1 132.3 171.1 150.5 158 173 190

Real Estate Tax*3.021 3.808 3.799 4.018 3.943

4.108 4.248 4.437

*Billions SK, CK*Slovak State Grants in 1991: 7.961, 1992: 2385 Source: Federal Ministry of Finance, Czech and Slovak Republics, and own calculations

TABLE 5

National and Local Budgets:Czech and Slovak Republics

SLOVAK REPUBLIC

1993 1994 1995 1996 1997 1998 1999 2000

Local Budgets*19.

5 19 21 21.5 23.5 22.7 21.3 24.8

Local as % of National Budget

12.97 13.65 12.88 13.2 13.37

12.68 11.9 11.07

State Grants to Local Budgets* 1.5 1.1 1.2 1.3 1.8 2.08 2.24 2.77

Total Local Revenues* 21 20.1 22.2 22.9 26.7 25.9 24.2 27.4

Local Budget Expenditures*

19.3 19.1 18.9 21.9 25.3 25.8 23.9 26.5

Real Estate Tax* 1.6 1.79 1.73 2.14 2.61 2.4 2.72 2.87

CZECH REPUBLIC

1 993 1994 1995 1996 1997 1998 1999 2000

Local Budgets*91.

1 111 129.1 161.72 145.3157.

2 187.7 181.8

Local as % of National Budget

25.45 28.43 29.34 33.5 30.3 30.8 30.9 32.6

State Grants to Local Budgets*

27.03 29.25 33.28 59.44 35.87

37.39 41.43 46.05

Total Local Revenues* 101 111 129 162 147 162 188 181

Local Budget Expenditures*

90.1 112.1 132.3 171.1 150.5 158 173 190

Real Estate Tax*3.021 3.808 3.799 4.018 3.943

4.108 4.248 4.437

*Billions SK, CK*Slovak State Grants in 1991: 7.961, 1992: 2385 Source: Federal Ministry of Finance, Czech and Slovak Republics, and own calculations

TABLE 5

National and Local Budgets:Czech and Slovak Republics

SLOVAK REPUBLIC

1993 1994 1995 1996 1997 1998 1999 2000

Local Budgets*19.

5 19 21 21.5 23.5 22.7 21.3 24.8

Local as % of National Budget

12.9

13.65

12.88 13.2

13.37

12.68 11.9

11.07

State Grants to Local Budgets* 1.5 1.1 1.2 1.3 1.8 2.08 2.24 2.77

Total Local Revenues* 21 20.1 22.2 22.9 26.7 25.9 24.2 27.4

CZECH REPUBLIC

1 993 1994 1995 1996 1997 1998 1999 2000

Local Budgets*91.

1 111 129.1 161.72 145.3157.

2 187.7 181.8

Local as % of National Budget

25.45

28.4

29.34 33.5 30.3

30.8 30.9 32.6

State Grants to Local Budgets*

27.03 29.25 33.28 59.44 35.87

37.39 41.43 46.05

Total Local Revenues* 101 111 129 162 147 162 188 181

*Billions SK, CK*Slovak State Grants in 1991: 7.961, 1992: 2385 Source: Federal Ministry of Finance, Czech and Slovak Republics, and own calculations

Local Property Taxes and Transfers from Central Governments: Czech and Slovak

Republics

Property Tax as % of Local Budget

Fiscal Transfers as % of Local Budget

Year Czech Republic Slovak Republic Czech Republic Slovak Republic

1993 2.99 7.62 29.67 7.69

1994 3.43 8.91 26.35 5.79

1995 2.95 7.79 25.77 5.71

1996 2.48 9.34 36.75 6.05

1997 2.68 9.78 24.68 7.66

1998 2.53 9.27 23.79 9.16

1999 2.26 11.24 22.07 10.52

2000 2.44 10.47 25.33 11.17

Local Property Taxes and Transfers from Central Governments: Czech and Slovak

Republics

Property Tax as % of Local Budget

Fiscal Transfers as % of Local Budget

Year Czech Republic Slovak Republic Czech Republic Slovak Republic

1993 2.99 7.62 29.67 7.69

1994 3.43 8.91 26.35 5.79

1995 2.95 7.79 25.77 5.71

1996 2.48 9.34 36.75 6.05

1997 2.68 9.78 24.68 7.66

1998 2.53 9.27 23.79 9.16

1999 2.26 11.24 22.07 10.52

2000 2.44 10.47 25.33 11.17

The EU Demands Democracy and Democracy Implies Fiscal Decentralization

EU membership requires that a country achieve:

• stability of institutions guaranteeing democracy, the rule of law, human rights and respect for and protection of minorities;

EU membership requires that a country achieve:

• a functioning market economy as well as the capacity to cope with competitive pressure and market forces within the Union;

• the ability to take on the obligations of membership and adhere to the aims of political, economic and monetary union.

The EU Commission on Czech Accession ignored the local autonomy issue

In the 2000 Regular Report the Czech Republic was praised and censured for rather trivial fiscal conditions and situations

• The more serious, long-term failure to enable or promote the development of local autonomy was not mentioned by the EU as a subject of concern.

(2000 Regular Report by the Commission on the Czech Republic’s Progress towards Accession)

The Reform of Public Administration

• For the past few years both the Czech and Slovak Republics have been responding to an EU challenge to prepare for admission by reforming their systems of public administration.

The Reform of Public Administration

The reforms of public administration have included

• the addition of regional governments (Kraje) between the center and the municipalities, and

The Reform of Public Administration

The reforms of public administration have included

• the transfer of additional responsibilities to some of the municipalities.

But…

The Reform of Public Administration

The reforms of public administration are like redefining the powers of agents without providing independent financial resources to enable them to implement their own decisions.

The Reform of Public Administration

In other words, reforming public administration and fiscal decentralization are related as complements, not as substitutes.