Fiscal decentralization and intergovernmental grants: the European regional policy and Spanish autonomous regions

Abstract

Most of the Structural Actions are designed as an incentive to increase public investment in less-developed areas. However, we suspect that the efficiency of the policy is related to the level of fiscal autonomy of the subsidized government. In this paper we construct a paned data model in order to estimate the role of fiscal federalism on the effectiveness of the EU Structural Actions in enhancing public investment. We use data from the seventeen Spanish regions for the period 1993-2007. The estimation is run upon three alternative strategies: firstly we break the sample according to the level of fiscal autonomy of the units; secondly, we insert an interaction term capturing the join effect of both variables, fiscal decentralization and EU Structural Actions; finally, we estimate a simultaneous equation model in which public investment and the EU transfers are decided simultaneously. Results unambiguously support the hypothesis that the effectiveness of the Structural Funds decreases with larger decentralization. Our results suggest also that this could be due to the fact that regions find it more difficult to be eligible for additional EUSF as they gain fiscal autonomy. The general conclusions include the recommendation that the future design of the European Cohesion policy should take into account the heterogeneity of Fiscal Federalism across the Member States in order to the get the most out of it.