Introduction
Programming Considerations
• Sub-Sovereign Borrowing
• Intergovernmental Transfers
• Own-Source Revenues
• Municipal Bond Issuance
Web Sites
Bibliography
Introduction
In many developing country cities, basic infrastructure and services are already stretched beyond capacity. As a result, economic growth can be stunted, quality of life can decrease and urban poverty can rise. The population in cities in the developing world is projected to double and reach 4 billion by 2030. This explosion in urban growth compounds the need for expanded basic services to the urban poor and improved infrastructure that attracts business and strengthens a city's competitiveness. The management and financing of these needs will increasingly become the responsibility of city governments as more and more countries decentralize fiscal and administrative functions. Thus, city governments will have an increasingly larger role in financing capital improvements and facilitating local investment through mechanisms available to them, including borrowing, raising revenue through taxes and fees, and issuing bonds. Which mechanisms are used will depend on several factors, including the city's creditworthiness, its ability to administer taxes, and the revenue flow from the national government.
Programming Considerations
Sub-Sovereign Borrowing
City governments are increasingly able to borrow from private capital markets, rather than from national government entities or local banks. Borrowing, however, entails costs just as any other economic choice and borrowed funds must be productively invested to justify the costs of borrowing. Decentralization and the liberalization of capital markets has produced a profusion of debt instruments available to city governments, which may differ in terms of security (collateral), maturity, and repayment flow structure. City governments need to carefully weigh the relative advantages of different types of debt before committing to one plan.
- Municipal creditworthiness
Creditworthiness is also important to cities interested in financing capital improvements because it is a determining factor investors and banks use to assess risk. To encourage private sector investment, city governments should take steps to increase transparency and reduce corruption at the city level. City governments can use performance-based budgeting, independent audits of city finances and double-entry accounting to demonstrate consistent governance despite changes in political leadership. City governments should also develop and follow a capital investment plan that identifies and appropriately sequences priority investments and takes into account the reduced operating and maintenance costs/savings as a result of the investments. For cities interested in a general purpose loan collateralized by the city's general revenues and a pledge to use a share of the revenues for loan repayment, the city government should efficiently administers its taxes, have stable revenues and build a solid record of loan repayment. Without these conditions investors are more likely to require collateral in the form of physical assets.
Intergovernmental Transfers
A major source of revenue to city governments is often transfers from the national government. Intergovernmental transfers can help address the basic imbalance between the revenue-raising capacity and the expenditure responsibilities of city governments. In many instances, the national government has greater administrative capacity for revenue collection, and so can collect taxes or other revenues more efficiently than city governments. National governments may also transfer resources to city governments in order to achieve specific goals that may have higher priority at the national level than the city level.
Another common reason for intergovernmental transfers is to achieve equalization across regions. Wide fiscal disparities across regions are common in many developing countries, and to the extent that revenue-raising authority is decentralized among regional or city governments, those disparities will tend to worsen. Intergovernmental transfers can equalize these disparities if used judiciously.
- Equalization formulas
Equalization formulas for intergovernmental transfers can take many different forms, depending on the goals of the governments and the available data. In cases where sufficient data is available, transfers can take into account the necessary expenditure needs of the city government as well as its revenues, and the transfer can be used to fill in the fiscal gap. In the absence of specific data on the fiscal gap, transfers can be based on indicators of the city's general needs or estimates of its fiscal capacity. Equalization formulas should be readily understandable and applied evenly across all of the qualifying city governments.
Own-Source Revenues
- Property taxes
As fiscal decentralization increases, city governments are usually given more opportunity to raise revenues directly through taxes and fees. In many areas, property taxes are the largest traditional local revenue source available to city governments. While property taxes generally cannot raise enough revenue to fund city expenditures such as health and education, they are commonly used to fund services such as waste collection and roads. Over time, it is important to maintain the property tax base through indexing or periodic reassessment. In areas with high inflation, indexing may be a more efficient choice.
- Other munipical taxes
City governments may have other attractive revenue-raising options, depending on their administrative capacity and the nature of the national tax regime. Excise taxes, such as on alcohol and tobacco and other taxes on consumption are often used in developing countries, and can be relatively easy to administer. City governments should be careful of the potentially distorting effects of sales taxes, especially if applied selectively.
Other less traditional taxes can be effective ways to raise revenues. Local income taxes, levied as a flat surcharge on national income taxes, are clear, equitable and do not produce distortions in the economy. Business taxes are popular in many city governments due to ease of collection but can be a barrier to new investment if excessive in relation to competing cities. Payroll taxes can similarly discourage investment and specifically hiring, especially at high rates.
- Shared taxes
Shared taxes can be an important source of revenue. Nationwide taxes are levied by the national government and a fixed proportion of the tax revenue is allocated to the city government, based on the revenue collected there (also called the derivation principle). Other criteria can also be used, such as population, expenditure needs and/or tax capacity.
- Other municipal fees and charges
City governments have substantial opportunities for collection of service fees, public prices and benefit taxes. Service fees include payments for licenses, registering business or vehicles or other items where the payment represents reimbursement for the cost of an individual service. Public prices include sales of widely sold goods such as energy and water from public utilities, entrance to public facilities, etc. Benefit taxes are levied on specific groups benefiting from a service and include special sewerage levies, development exactions and special assessments.
Specific projects can be funded with local investment that is repaid from the project's revenues, i.e. user fees, tariffs, which are managed in a separate fund. This financing arrangement usually includes a grace period that postpones repayment until the project is complete and project revenues can be collected.
Municipal Bond Issuance
For small to medium-sized municipalities tapping independently into the local capital market may be difficult because of high transaction costs relative to capital needs. For these cities--and those with infrastructure needs that extend beyond their municipal boundaries--pooled finance mechanisms, or bond banks, offer several advantages. Because capital is raised for a group of cities and various investments, the risk to investors, and therefore the interest rate for the cities, is lower. Marketing costs are incurred for the fund as a whole instead of for individual investments. Such mechanisms also realize economies of scale in loan origination and supervision.
For larger cities with identified bankable projects and in need of longer-term capital, municipal bonds or commercial loans may be appropriate finance vehicles. Municipal bonds pay for bridges, roads, etc., and are secured by a pledge of gross revenues, making payment of debt service senior to payment of operating expenses. Revenues include any income derived from the operation of the project including toll revenues, insurance proceeds, condemnation awards, liquidated damages and investment earnings as well as any other moneys deposited into the revenue fund. Commercial loans may also be an option cities can pursue for longer-term capital needs.
Web Sites
Asian Development Bank Cities Data Book: Urban Indicators for Managing Cities
http://www.citiesdatabook.org/index.cfm
The Cities Data Book explores the theory, development and application of urban indicator systems for improved urban management and performance measurement, and presents the findings from a pilot exercise undertaken in cities in the Asia and Pacific region. The book provides a detailed approach to applying the policy-based urban indicator system in other cities for improved urban management
Cities Alliance
http://www.citiesalliance.org
The organization is a global alliance of cities and their development partners committed to improve the living conditions of the urban poor through action in two key areas: 1) city development strategies (CDS) which link the process by which local stakeholders define their vision for their city, analyze its economic prospects and establish clear priorities for actions and investments, and 2) city-wide and nation-wide slum upgrading to improve the living conditions of at least 100 million slum dwellers by 2020 in accordance with the Cities Without Slums action plan.
Condominiums in the Kyrgyz Republic, Transition Newsletter
http://www.worldbank.org/transitionnewsletter/janfeb2002/pgs48-49.htm
The article discusses experiences in developing and managing condominiums in Kyrgyzstan.
European Bank for Reconstruction and Development Water Tariffs Toolkit
http://www.ebrd.com/country/index.htm
The EBRD is the largest single investor in Eastern and Central Europe and mobilizes significant foreign direct investment beyond its own financing. It provides project financing for banks, industries and businesses, both new ventures and investments in existing companies. It also works with publicly owned companies, to support privatisation, restructuring state-owned firms and improvement of municipal services. The Bank uses its close relationship with governments in the region to promote policies that will bolster the business environment.
India Urban Information Resource Centre
http://www.indiaurbaninfo.com/niua/index.htm
This site is prepared to disseminate and promote exchange of information on urban issues so as to serve a large number of urban local bodies, financing institutions, development authorities, state governments, public and private infrastructure organisations, consulting organisations, training institutions and other related organisations and individuals.
Interamerican Development Bank Municipal Finance
http://www.iadb.org/rdm/Recursos.cfm?page=Finanzas%20Municipales
The website provides links to IADB studies, documents, and web pages of other organizations in the field of municipal finance.
International Center for Not-for-profit Law: Legal Mechanisms to Encourage Development Partnerships
http://www.icnl.org/journal/vol1iss1/istr.htm
The document describes the newly evolving relationships among governments, businesses, and local NGOs to assist social and economic development and discusses the supportive legal and fiscal environment necessary to nurture such growth.
International Finance Corporation Infrastructure Web Site
http://www.ifc.org/infrastructure/index.html
The web site provides information, resources and descriptions of the IFC Infrastructure Department’s efforts in financing infrastructure projects worldwide, specifically in the areas of transportation and utilities.
USAID Development Credit Authority
http://www.usaid.gov/economic_growth/egad/ci/dca2.htm
DCA is a broad financing authority that allows USAID to use credit to pursue any of the development purposes specified under the Foreign Assistance Act (FAA) of 1961. DCA seeks to give USAID the flexibility to make more rational choices about the appropriate financing tools - loans, guarantees, grants or a combination thereof - used in project development.
Water Supply and Sanitation Program (The World Bank Group)
http://www.wsp.org/
The Program is an international partnership of the world's leading development agencies concerned with water and sanitation services for the poor. Information on condominial water can be found in "Condominial Water and Sewerage Systems: Lower Cost with Greater Benefit" http://www.wsp.org/condominial/indexeng.html
World Bank Institute Intergovernmental Fiscal Relations and Local Financial Management Program Course on Budgeting, Section on Capital Budget and Investment Planning
http://www1.worldbank.org/wbiep/decentralization/Topic10.6.htm The focus of this paper is to outline the role of budgeting as a critical tool of local government finance and to provide guidelines to strengthen local public finances in improving the financial management and creditworthiness of local government entities. The Section on Capital Budget and Investment Planning describes the various steps and implications local governments face in developing and improving its long-term assets, including roads, pipes, schools, and water treatment plants.
World Bank Private Participation in Infrastructure Database
http://www.worldbank.org/html/fpd/privatesector/PPIDBweb/Intro.htm
The database records contract and investment information for infrastructure projects worldwide, newly owned or managed by private companies, that reached financial closure after 1984 in energy (electricity and natural gas), telecommunications, transport, and water.
World Bank Toolkit for Private Sector Participation in Water and Sanitation
http://www.worldbank.org/html/fpd/water/wstoolkits/index.html
The website provides three toolkits in fostering private sector participation in water and sanitation. They include: 1) Selecting and Option for Private Sector Participation, 2) Designing and Implementing an Option for Private Sector Participation, and 3) What a Private Sector Arrangement Should Cover.
World Bank International Forum for Utility Regulation
http://www.worldbank.org/html/fpd/psd/ifur/)
The International Forum for Utility Regulation (IFUR) provides a medium of exchanging information and serves as both an umbrella and a catalyst for utility regulatory institutions from OECD and non-OECD countries, other multilateral organizations, and universities that work in infrastructure development and reform.
BIBLIOGRAPHY
(1) The World Bank. Intergovernmental Fiscal Relations & Local Financial Management. World Bank Courses. Topic 11.
http://www1.worldbank.org/wbiep/decentralization/Course%20Topics.htm
(2) The World Bank. Intergovernmental Transfers in Developing and Transition Countries: Principles and Practice. (By Roy Bahl).
http://www1.worldbank.org/wbiep/decentralization/Topic08_Printer.htm
(3) The World Bank. Intergovernmental Fiscal Transfer in Nine Countries: Lessons for Developing Countries Policy Research Working Paper 1822. The World Bank Economic Development Institute, Macroeconomic Management and Policy Division. September 1997.
www.worldbank.org/html/dec/Publications/Workpapers/WPS1800series/wps1822/wps1822.pdf
(4) The World Bank. Intergovernmental Fiscal Relations & Local Financial Management. World Bank Courses. Topic 7.
http://www1.worldbank.org/wbiep/decentralization/Course%20Topics.htm
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