November 2001 Insights Issue #38

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Financing cities

Probably the greatest constraint facing city governments as they seek to address poverty is the inadequacy of financial resources. Not only are city budgets in the poorest cities extremely small - under US$5 per person per year in Kumasi and US$14 in Bangalore - but they represent a smaller proportion of GNP per capita than do city budgets in relatively richer countries: one percent in Kumasi compared to five percent in Recife, Brazil.

How can cities increase their resources? Property and business taxes are major sources of revenue for most large cities. But property tax is politically sensitive, unresponsive to inflation and economic growth and difficult to enforce. Some cities (Cebu, for example) have managed to increase tax collection through improved property registration, revaluation, and sanctions against defaulters.

In many cities, however, as much as half the property tax remains uncollected. Flat-rate business taxes fall disproportionately on the poor while taxes based on turnover are hard to assess and may have negative economic consequences (such as penalising businesses which grow or causing disruption to trade). Yet, Ahmedabad's remarkable fiscal turn-round in the 1990s was mainly due to improved collection of octroi (a tax levied on goods entering the city) which is widely seen as having a negative economic impact.

Huge differences in tax base often exist between jurisdictions. In Santiago, the six richest municipalities have six times the per capita resources of the six poorest. For this reason, Johannesburg's local authorities have been amalgamated into one very large city. But in Cebu, the sub-municipal or Barangay level of government receives a share of national and city tax revenues, thereby bringing decisions about resource use closer to the poor and ensuring greater responsiveness to poor people's needs.

How far do the poor benefit from municipal expenditures? They may benefit little from public subsidies for water if they are not connected, or for waste collection where the service is provided mainly in high income areas. The largest area of expenditure benefiting the poor in most cities seems to be health services. In some cities, only donor funding is explicitly targeted on the poor.

Formal processes of budget approval by councils may give little real influence to elected councillors. They may be able to bargain for certain benefits for their constituents in the budget process but actual expenditures often depart radically from approved budgets. Where revenues fall short of forecasts, as often happens, cuts have to be made during the year. The lack of transparency over actual resource use, especially where there are multiple extra-budgetary funds, reinforces clientelistic dependence on mayors and executives.

Participatory budgeting (PB) in Recife has extended participation, made budgetary choices more transparent, and led to a shift in expenditure towards social programmes and local infrastructure benefiting the poor. Even in Recife however, the executive still controls the process, and only 5 to 10 percent of the city's budget is subject to PB, compared to around 25 percent in Porto Alegre, also in Brazil.

What can cities do?

• More effective revenue collection (such as revaluing property or enforcement) could increase resources significantly. Exempting low value properties and informal sector businesses would minimise the tax burden on the poor.
• Access to loans may enable cities to undertake capital investment, but can distort choices. The growing bond market has encouraged Bangalore to undertake 'mega-projects' that have little benefit for the poor, often forcing them out and undermining fragile economic and social relationships. In Johannesburg, the need to re-establish credit worthiness was the driving force behind the restructuring programme and expenditure cuts in the late 1990s.
• Resources need to be distributed equitably throughout the city. Devolving some funds to the neighbourhood level can bring decisions about resource use closer to the poor.
• A reappraisal is needed of who benefits from expenditures. Reorienting expenditure patterns from high standards that benefit a few to serving the majority who are poor requires a radical change in official attitudes.
• While the executive needs to maintain control over a city's budget and use of resources, greater transparency is essential to counteract corruption and clientelistic power relationships and to strengthen the influence of the poor through ward councillors.

Nick Devas
International Development Department
School of Public Policy
University of Birmingham
Birmingham B15 2TT
UK

T +44 (0)121 414 5036
c.n.devas@bham.ac.uk
www.bham.ac.uk/IDD/activities/urban/urbgov.htm

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