INTERGOVERNMENTAL FISCAL TRANSFER SYSTEM IN FEDERATION OF BOSNIA AND HERZEGOVINA EQUALIZATION ASPECTS

By Halko Basaric

Submitted to Central European University Department of Public Policy

In partial fulfillment of the requirements for the degree of Master of Arts in Public Policy

Supervisors: Professor Robert Ebel and Profesor Adrian Ionescu

Budapest, Hungary 2006

ABSTRACT
Decentralization as a policy option has become, together with other public sector reforms, a hallmark of the transition process in the Central and Eastern Europe. Decentralization accounts for improved transparency and accountability, well designed it can enhance resource efficiency as well as serve as key to the accomplishment of a nations broader economic goals of macro-economic stability, privatization and maintenance of the social safety net. But, for decentralization to work it is essential that there is a fiscally strong central government that can set standards which serve the purpose of equalizing the service delivery and living conditions of the citizens. This thesis explores present system of intergovernmental relations in Federation of Bosnia and Herzegovina (FBiH), an entity comprising State of Bosnia and Herzegovina (BiH). It argues that those arrangements create huge vertical and horizontal imbalance between cantons and municipalities, which represents a potential threat to building a new nation. Peculiar intergovernmental relations, which favor intermediate level-cantons, left FBiH Government without fiscal power for equalization, and are direct consequence of strong centrifugal forces that emerged in the course and after the four-year conflict. For the first time after the Dayton Peace Accord, and after introduction of VAT on the state level, FBiH Government has introduced a formula based public revenues allocation system, thus replacing the previous derivation based one. The thesis examines new system, suitability of its design to Bosnian fiscal federalism and test whether the formula corrects growing fiscal imbalances. It finds that new transfer system is comparatively better solution for transition country such as BiH, provided that other reforms are implemented simultaneously.

TABLE

OF

CONTENTS

Introduction.........................................................................................................................1 Why Decentralize?..................................................................................................1 Classis Theoretical Frameworks..............................................................................3 Fiscal Decentralization............................................................................................5 Intergovernmental Transfer System in Federation of Bosnia and Herzegovina.....8 Chapter 1: Legal Framework for Intergovernmental Fiscal Relations..............................12 1.1 Tradition of Self-Governance..........................................................................12 1.2 Legal Framework.............................................................................................13 1.3 Local Governance in Federation of Bosnia and Herzegovina.........................15 1.4 Local Governance in Republika Srpska..........................................................18 Chapter 2: Functions of Local Governments in Federation of Bosnia and Herzegovina. 20 2.1 Functions Exclusively Assigned to Federal Level..........................................26 2.2 Functions Assigned to Cantons and Functions Delegated to Municipal Level..........................................................................................26 2.3 Concurrent Responsibilities.............................................................................28 2.4 Functions Assigned Exclusively to Municipalities.........................................28 Chapter 3: Revenues Sources............................................................................................30 3.1 Reasons for Decentralizing Revenues.............................................................30 3.2 Situation Before VAT Introduction.................................................................32 3.3 Tax System Reform-A Policy Window for Fiscal Equalization.....................36 Chapter 4: New Intergovernmental Transfer System in Federation of Bosnia and Herzegovina............................................................38 4.1 Theoretical Framework...................................................................................38 4.2 New Formula Based Allocation Mechansm in FBiH......................................43 4.3 How Good New System Performs?.................................................................46 Conclusion.........................................................................................................................48 Appendices........................................................................................................................51 Bibliography......................................................................................................................56

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I would like to express my sincere gratitude to team implementing USAIDs Governance Accountability (GAP) Project in Bosnia and Herzegovina, especially to Policy Advisor Mrs. Jasmina Djikic. I would like also to thank my supervisors Robert Ebel and Adrian Ionescu for their guidance and support.

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INTRODUCTION
Why decentralize? Decentralization is the word that has marked the transition process through which countries of Central and Eastern Europe have been going after the fall of communist regimes. Decentralization, however, has been on the agenda of many countries already for decades, developed and developing ones, unitary and with more complex governmental structure, rich and poor. Some 95% of the democracies around the world have elected some sort of subnational governments (World Bank Development Report 2000). Countries decide to decentralize for a variety of reasons. Some see decentralization as the mean to boost the economic growth and as part of effort to improve the governance in the country (Ebel and Yilmaz 2002, Vazquez-Martinez and McNab 2005). In other countries, central government is forced to devolve some power to the regional government in face of strong centrifugal or even secessionist forces in the society, and to achieve political stability (Bird and Ebel, 2005). Macroeconomic stability and equity are also of concerns for the decentralization, though the results are not unambiguous, especially for the countries with weak governance (Ebel and Yilmaz 2002, Anwar Shah 1997). Centralization has its benefits as well. Roy Bahl (1999) for example, finds that transition countries are more sensitive to the swings on the international markets, which are transmitted and magnified in the domestic public sector. In this case stabilization of economy is more easily achieved if the central government is not locked into fixed arrangements with the subnational governments. According to World Bank (2001) there are three imperatives behind this phenomenon: Political Imperative. After years spent under monolithic political system, people in

transition countries ask for more autonomy and self-governance. The decision-making power

vested by the legislation to the locally elected officials, increase accountability and citizens participation; Economic Imperative. In socialism, the size of the public sector in providing goods

and services for citizen was immense. For transition countries there was not other option but to reduce public sector share in the national economy. Decentralization of provision of goods and services is one way to achieve that goal; Service Delivery Imperative. This imperative re-affirms Oates Decentralization

Theorem (Oates 1972): Provision of public services is done more efficiently by the local government than if it is centrally provided, for local governments can more accurately determine citizens preferences and diversify the level of service, provide that there is no existence of economies of scale and externalities for delivering those services. Under the old system, majority of the services were either directly delivered by the central government, or the provision was centrally regulated. Decentralization entails transfer authority and responsibility for public functions to subordinate or quasi-independent governments organization of the private sector (Rondinneli). Following types of decentralization can be identified: Political decentralization. It aims to give citizens and their elected representatives

more power in public decision making. It is often associated with pluralistic politics and representative government, but it can also support democratization by giving citizens or their representatives more influence in formulating and implementing policies. Local politicians better know the need and desires of their constituents and citizens can better know their political representative. Final result should be more political stability and better governance Administrative decentralization seeks to redistribute authority, responsibility, and

financial resources for providing public services among different levels of government. It is the transfer of responsibility for planning, financing, and managing certain public functions

from the central government and its agencies to field units of government agencies, subordinate units or levels of government, semi-autonomous public authorities or corporations, or areawide, regional, or functional authorities. Fiscal decentralization. Financial responsibility is a core component of

decentralization. If local governments and private organizations are to carry out decentralized functions effectively, they must have adequate revenuesraised locally or transferred from the central governmentas well as the authority to make expenditure decisions. Fiscal decentralization include devolving some of the political decision-making power to the local level, which is not often the case with administrative decentralization. Classic Theoretical Frameworks The theoretical foundation for the public finance analysis was laid in the works of three distinguished scholars: Charles Tiebout (1956), Richard Musgrave (1959) and Wallace Oates (1972). Tiebouts Pure Theory of Local Expenses is focused on the local public finance, and it seeks to prove that there is a market-type solution the determining the level of public expenditure on the local level. In Tiebouts model, local households seek a community of residence that provides a fiscal bundle closely approximating their demands for local services. Local voter reveal their preferences by voting by feet, which generates Pareto-efficient outcome, similar to that in private markets, under the condition that there is large number of local communities providing local services at the tax price equal to the marginal cost. Musgraves The Theory of Public Finance is a departure point for any analysis of the public finance. It splits the public sector into three branches: Macroeconomic Stabilization-which is assigned to the central government. Overall

managing of the economy and monetary policy should be prerogatives of the central government. Regional government because of their openness and possibility of interregional
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competition cannot perform this function. This implies at the same time that central government must some tax handle suitable for achieving that task of stabilization. Distribution-which is also assigned to the central government. Central government can

more easily redistribute the national income or wealth, as it usually has broad-based taxes available for this. Also, the mobility of the taxpayer from the jurisdictions with unfavorable taxes to those with less redistributive policies weakens the sub-national government potential for redistribution. On the other hand, the fact sub-national governments are in most countries responsible for providing the social assistance gives, and therefore can increase efficiency of the programs, provides some space for redistributive role of sub-national governments. Allocation Function. This function in Musgrave tripartite division explains how

different levels of government provide mix of private and public goods to satisfy the needs of the consumers. Some goods are most efficiently delivered at the national level (e.g. defense) while other which have local character can be better suited to meet the needs of the local community (fire protection, water supply). Centralized provision of these service would deny their local character, thus resulting in welfare losses and inefficiencies. The third function is closely related to Oates Decentralization Theorem: For a public goodthe consumption of which is defined over geographical subsets of the total population, and for which the costs of providing each level of output of the good in each jurisdiction are the same for the central or for the respective local governmentit will always be more efficient (or at least as efficient) for local governments to provide the Pareto-efficient levels of output for their respective jurisdictions than for the central government to provide any specified and uniform level of output across all jurisdictions (Oates 1972). Briefly, the Theorem states that under the given conditions, diversification of the outputs for different communities as demanded by the residents will increase welfare. The underlying condition of the theorem emphasizes the importance of the optimal size of the jurisdiction for providing a

particular public service. The question of mobility of tax payers in this case is closely related to vertical and horizontal fiscal equity in the country as well as minimum service provision (Oates, 1977). Fiscal Decentralization Countries around the world are decentralizing their governmental structure in an effort improve the overall efficiency of the economy by devolving service delivery and taxation to the lower tiers of government. Proportion of countries with some form of democratic government rose from 28% in 1974 to 61% in 1988 partly as a response to the ongoing globalization and integration of national economies with increasing confinement of the powers of nation-states that it entails (Dabla-Norris 2006). In some countries fiscal decentralization is seen as the way for increasing the accountability and legitimacy of the government, as fiscal decentralization strengthen the voice of local communities and opens the space for citizens participation in decision-making process. Locally elected politicians can focus better tailor the bundle of local services for the citizens, while the same time transfer of assigning of own-revenues increases the accountability on the local level. In transition countries of Central and Eastern Europe, decades of state dominance created a strong impetus for decentralization initiatives (Bird, Ebel and Wallich 1995). Therefore, those countries musth catch-up with the decades-long practice of western countries. The set of government that is closest to the citizens can adjust budgets to the local preferences, and therefore enhance the efficient utilization of the scarce resources (Ebel and Yilmaz). Local tax bases are more accessible to the sub-national governments, provided it function well. Decentralization leads to enhancing democratic values at the local level by allowing citizens to take active role and assume responsibility for the local government

actions. In the transition countries, fiscal decentralization can also play role in privatization of the state owned enterprises and poverty alleviation (Bird, Ebel and Wallich 1995) In any of the cases, decentralization is about intergovernmental arrangements amongst the different types of governments, regardless of how countrys public sector is arrangedthere are at least two tiers of government even in the unitary states, which makes inevitable to have some sort of intergovernmental fiscal relations. The process of decentralization must give answer to the following questions (Bird and Vallincourt 1998): 1. Who does what?-the question of expenditure assignment 2. Who levies what taxies-the question of revenues assignment 3. How is the imbalance between the revenues and expenditures for sub-national governments that results from the answers from the first two questions to be resolved?-the question of vertical imbalance 4. To what extent should fiscal institutions attempt to justify for the differences in needs and capacities among different governmental units at the same level of government?-the question of horizontal imbalance, or equalization. How one value decentralization depends on the point of view: bottom-up decentralization generally stresses political values-improved governance in the sense of increased responsiveness and citizens participation, as well as allocative efficiency. This approach emphasizes political dimension of the decentralization, as it is said the better use of local knowledge and more efficient and equitable service delivery would presumably result with more support for the government; top-down approach however is characterized by the central governments pursuing some national policy through fiscal decentralization. This can

be for example deficit shifting to the sub-national governments or desire of the central government to achieve more equity or more of the social welfare. Decentralization lies on the continuum which depends on the degree of independent decision-making exercised at the local level (Bird and Villancourt 1998): Decocentration means the dispersion of responsibilities within a central government to

regional offices or local administrative units; Delegation refers to a situation in which local governments acts as agent for the central

government, executing certain function on its behalf; Devolution refers to a situation in which not only implementation, but also authority to

decide what is done is in the hands of local government. Before we move to discuss transfer system as the component of fiscal decentralization and its importance in Federation of Bosnia and Herzegovina, it is important to mention valid alternatives. Fiscal decentralization is not a panacea for organizational issues in a country. Vito Tanzi (Tanzi 2001) identifies at least two alternatives to the fiscal decentralization: improving current politics and reducing the role of public sector. Often demands for decentralization are result of the citizens perception of central government policies as unjust, inefficient or inadequate. Badly designed regional development policy or corrupt central government will create pressures for more decentralized policy decision-making. If the central government does not change its policy, it is likely that the pressures for more efficient and equitable government will intensify trough decentralization. Reducing the role of the public sector is another alternative to the decentralization, because in Tanzis word the growth of government in recent decades-which has been accompanied by a huge expansion of public sector activities in many countries-must have been partly responsible for increased demands for decentralization witnessed in recent years. Therefore, according to him at least part of

the government activities could be privatized, depending on governments efficiency or privatization and governments sectoral specific policies. Intergovernmental Transfer System in Federation of Bosnia and Herzegovina It is very rare situation that revenues assigned to the sub-national governments are fully matched with the expenditures needs of that level. In those cases, intergovernmental fiscal transfers are used to close the gap between the expenditure responsibilities and revenues-raising capacity, or in other words to close vertical fiscal gap. At the same time, resources available to the sub-national can vary significantly, or the expenditures needs for providing standardized basket of service can be different, thus effectively creating a horizontal fiscal imbalance (Bird and Tarasov 2002 ). Fiscal transfers can also be used to influence spending patters of the sub-national governments or to stimulate local fiscal efforts (Ebel, Bird and Wallich 1995). First objective of this paper, elaborated in Chapter 1 through III is to examine intergovernmental fiscal system in Federation of Bosnia and Herzegovina (FBiH), claiming that it creates huge vertical and horizontal imbalances between the cantons and municipalities. This will be done by analyzing expenditures and revenues assignments, as well as legal framework for intergovernmental relations. A unique character of the fiscal federalism in BiH has not created conditions for development of the transfers system in the post-conflict period. Republika Srpska (RS) and FBiH, two entities comprising Bosnia and Herzegovina, are ethnically based administrative units with excessive revenue-raising powers assigned, while major spending responsibilities were kept either at the entity level (in RS), or as it case in FBiH also at the sub-entity cantonal level. Smaller BiH entity (RS) has a unitary form, with strong central government and no intermediate level of authorial. Until the recent tax reform,

State of Bosnia and Herzegovina had very expenditure responsibilities assigned to it, and thus is limited in its capacity to influence the fiscal sector. Vertical and horizontal imbalances in FBiH which are result of non-existing transfer system have reached worrying proportions. Measure of the Minimum of GDP per capita to FBiH average, shows that Canton Una-Sana has only 66,7% of the GDP pc of the average. Another measure, Maximum to Minimum Ratio (MMR) of GDP per capita for ten cantons comprising FBiH reveals that the ratio between the poorest and richest canton is 2,8:1. At he same time, municipalities in FBiH in 2003 constituted only 11% of all public spending in the entity, or 3.2% of FBiHs GDP. This very low for in comparison with RS and shows that municipalities in FBiH are radically underfunded (GAP, 2005). One of the main problems of FBiH fiscal system is its fragmentation to in fact ten small cantonal systems, which compounded with the inability of FBiH to actively pursue any equalization policy, represents a huge social, political and economic problem.

Decentralization inevitably has a result some degree of inequality between the richer and poorer jurisdictions, or in other words equal treatment of equals (Buchanen 1950) can only be achieved by using intergovernmental fiscal transfers. Equalization requires a consensus that social citizenship and solidarity among all citizens apply with equal force nationwide as opposed to being region-specific (Boadway 2004). In FBiH this was not the case. UNDDP (Human Development Report for BiH 2005) states that there are huge differences in the level of education expenditure amongst administrative units (cantons).These differences work against the uniform application of human rights and the modernization agenda. The same report further notes in the health care sector, administrative duplication is strongest in the Federation where, in addition to the cantonal authorities, the Federal Ministry also exercises a coordinating role.

So called Net Fiscal Benefit approach to equalization (Bird and Waillincourt 2004) state that tax structure need to be as neutral as possible, to avoid distortion of the resources allocation, which should be done only on the economic basis. If this is not so, then fiscal transfer are used to restore the neutrality of the tax structure so that resources are distributed according to their productivity. Though the mobility of capital and people is low in BiH, this type of distortion is present, especially between the cantons with urban amalgamation (for example Sarajevo or Mostar) and those scarcely populated and remote cantons (Livno or Gorazde). As of January 2006, Bosnia and Herzegovina introduced a Value Added Tax (VAT) as part of the reform of national tax system. Collection of indirect taxes and customs is centralized on the state level, under the newly formed Indirect Taxation Authority (ITA) . Tax policy has been also transferred to the state level, thus effectively leaving entities with very little power in the fiscal domain. The revenues collected to the ITAa Single Account are, however, ceded to the entity level, based on the entity share of the processed VAT invoices, subject of much political debate. This solution enabled FBiH entity to introduce for the first time in post-conflict era revenues-sharing mechanism incorporating some elements of fiscal equalization. Unlike with the previous solution when each canton had its own revenue-sharing law, new Federal Law on Distribution of Public Revenues (Official Gazette 22/06) employs distribution formula to allocate the revenues between cantons and municipalities, with gradual introduction over the period of six years. A myriad of cantonal revenues-sharing laws has been abolished and replaced with the a single law, which despite the fact that FBiH is no longer in control of indirect taxes, still allows for active policy role to be played. As second objective, this paper will examine new system of intergovernmental transfers in FBiH, specifically focusing on its

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equalization aspects. In Chapter IV we will analyze new system, both in the light of theoretical literature and its practical suitability for FBiH conditions. This will be complemented by testing how newly introduced formula-based transfer treats sub-national governments with respect to equalization. We will calculate per capita amount for the last year of transition period, and then we will use statistical method of regression to determine its correlation with fiscal capacity and expenditure needs of cantons and municipalities.

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CHAPTER 1: LEGAL FRAMEWORK FOR INTERGOVERNMENTAL FISCAL RELATIONS

1.1 The Tradition of Self-Governance Former Socialist Federative Republic of Yugoslavia had a long and unique tradition of local self-governance. The so called self-management under which all enterprises operated as well as the other institution of the Yugoslav socialist system, has been developed after the WWII when Tito rejected soviet model, and chose to take Yugoslavia on a separate road to socialism. The self-management was first introduced in factories and enterprises, but later it became a hallmark of the Yugoslav socialism as it integrated into the socio-economic life of the whole country. Self-management allowed workers in factories and enterprises to decide on all aspects of managing through the workers councils. The councils for example, had the power to decide on investments, managers or profit sharing. On the level of municipalities, the workers were represented in one of the two municipal councils. The other council was popularly elected. These councils had wide responsibilities, from deciding on local fees, rents and apartment allocation, to the taxation of the companies and deciding on their business plans. Local voters controlled the work of councils through the regular voters meetings and consultations, and the council would be disbanded if one-third of local residents voted for non-confidence. With the constitutional changes in 1974, Yugoslav Republics gained

additional powers, and units of local self-governance-municipalities, were transferred more responsibilities. Though this kind of Yugoslav direct democracy was taking place in a oneparty system, constituent nations in Bosnia and Herzegovina-Bosniacs, Croats and Serbs have learnt basic skills of participation in local self-governance. This tradition has been kept until today, though the war has severely influenced its functioning in the Daytonian Bosnia and Herzegovina.

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1.2 Legal Framework Bosnia and Herzegovina emerged after the war as a heavily decentralized country. Peace talks held in Dayton in November 1995, were naturally more directed toward reaching the peace, than to find optimal solution for the fiscal federalism in the new country. Very strong secessionist forces at that time in Bosnia and Herzegovina were driven by a simple maxim: to legalize what has been won in the war, and if conditions permit, to join the neighboring states. Therefore, there was not too much of desire or opportunity to create a state functioning on the principles of economic efficiency and social equity of its citizens. The Dayton Peace Accord (DPA) marked the beginning of the new era for the centuries old country. In the new Constitution, Bosnia and Herzegovina was envisaged as decentralized asymmetric federation, composed of two entities. The smaller entity, Republika Srpska (RS) has 49% of the pre-war territory of BiH. Bigger entity, Federation of Bosnia and Herzegovina (FBiH) through negotiations was allocated 51% of the territory 1. A small town of Brcko in northern Bosnia was a subject of dispute of parties. In 2000, an international mediator decided to give Brcko the status of special administrative district in Bosnia and Herzegovina, effectively creating a third territorial unit.

In fact, Federation of Bosnia and Herzegovina had been formed 18 months before the Dayton Peace Accord (DPA) was signed. Two Bosnian constituent nations Croats and Bosniacs agreed in 1994 in Washington to establish a Federation. Since at that time it was not possible to predict whether Bosnia and Herzegovina will continue to exist as a state, in other word whether Bosnian Serbs will secede into the separate entity, FBiH entity was envisaged as the fully functioning state, with executive, judicial and legislative authorities military forces and other attributes. Eventually, DPA has ended the war by recognizing the second entity, but the previously established structure remained unchanged.

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Both entities are administratively, politically, and until the introduction of State VAT fiscally, independent from the central government. They have very distinct administrative organizations. While Republika Srpska has kept a form similar to the socialist BiH, with two levels of government, an intermediate level-cantonal was introduced in the Federation. This was necessitated by the deep mistrust between the ethnic groups, product of war, but also it was caused by till lively memory of Yugoslav interregional equalization policy, for which especially Croats had aversion (Fox and Wallich 1997). Figure 1. Governmental Structure of Bosnia and Herzegovina as from Dayton Council of Ministers

Federation of Bosnia and Herzegovina

Republika Srpska

Cantons (10)

Municipalities (79)

Municipalities (56)

Central Government of Bosnia and Herzegovina (Council of Ministers-CoM) had very narrowly defined functions in the new Constitution. Those included competencies over monetary policy, foreign policy, immigration and asylum, and debt service (though in the case of the last, only entities were entitled to borrow). The assignment of responsibilities was negatively defined, so that all competencies not assigned to the state level, are the function of the entities. These quasi-federal arrangements reflected the Bosnian reality in 1995, and were the only way for maintaining the sovereignty of the country, at the same bringing three nations of a divided house to live together. Weak central government, however, proved to be a one of the main system errors of the new structure. Macroeconomic stabilization, fiscal
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consolidation, privatization of state property, were some of the critical areas in which the lack of coordination was often translated into bad policy solution, obstruction or even irrational rejection. The role that the ethnic division has played in the public sector should not be neglected. Even now, after ten years of reforms and enormous efforts invested into creating efficient institutional framework, the ethnic questions remain dominant and firmly entrenched, not only in the public sector, but unfortunately in the everyday life as well. As Bird (2003) says fiscal rationality may seem irrelevant when faced with symbolic meaning. The same can be said for any other policy domain. Central authorities on the state level do not have any competencies over the territorial organization of entities or internal administrative structure. Because of very different extent of decentralization of the entities, they will be analyzed separately. 1.3 Local governance Federation of Bosnia and Herzegovina The BiH bigger entity in fact has all characteristics of federally arranged state. There are ten cantons, which comprise the FBiH, and fiscally strong Federal government, though with the recent changes in the VAT introduction, the fiscal power has been reduced. Cantons are created as mini states with their own constitution, government and parliamentary representation, elected through an open and universal election. They are a result of the efforts to reconcile the centrifugal forces in the society, and promote political stability in the divided house by constitutionally guaranteeing division of power between the entity level and cantons. The topic of assignment of responsibilities is more elaborated in Chapter 2, but just to briefly mention that cantons have exclusive competencies for example over health, security (police), education or urban planning. At the time when the FBiH was conceived, assigning of significant share of power to the sub-entity level was the only viable option for maintaining

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the integrity of the country. Along with the decentralization of functions to the cantons, FBH has introduced a number of consociational mechanisms, such as vital national interest procedure in the Federal Parliament, to ensure checks and balances in the system between the constituent people. Table 1: Basic information for cantons in FBiH
Canton 1. Una-Sana 2. Posavina 3. Tuzla 4. Zenica-Doboj 5. Bosansko-Podrinjski 6. Central Bosnia 7. Herzegovina-Neretva 8. West Herzegovina 9. Sarajevo 10. Livno Total Federation Populat ion 288.935 41.436 496.885 401.401 34.508 256.175 228.649 83.570 410.031 82.402 2.323.9922 Area (km2) 4.125 324,6 2.649,0 3.343,3 504,6 3.189 4.401 1.362,2 1.276,9 4934,1 26.110,5 Ethnic composition Bosniack majority Croat majority Bosniack majority Bosniack majority Bosniack majority Croat majority Mixed canton Croat majority Bosniack majority Croat majority

As it can be seen from the table, federal cantons vary significantly in their size and population. Two of the cantons are without ethnic majority, while others have a dominant ethnic group. The size, population and urban-rural division not only between cantons, but also within the cantons, bear impact on the provision of the public goods. The lack of horizontal cooperation between cantons is often translated into duplication or underprovision of services. Local self-government is mentioned in the Constitution of FBiH in section VI, which lists the main competencies of cantons and municipalities, where it is stipulated that municipalities are the basic unit of self-government. Further, this matter is regulated on the

About 512.00 of citizens of FBiH are still residing abroad as refugees, and they are excluded from this figure. 16

basic level in Federal Law on Self-Governance. This framework law affirms the underlying notion of subsidiarity from the European Charter on Local Self-Governance, and it stipulates that municipalities are independent within their own scope of competencies. But the Law does not regulate this matter further, as it transfers the local self-governance to the cantonal level. Effectively, this has created ten different systems of local self-governance in FBiH, though cantons have to operate within the framework law. For illustration, suffice it here to say that often cantons violate the autonomy of municipalities by unilaterally changing the revenues sharing formulae or delegated responsibilities to municipalities. For a highly decentralized country, at least to the intermediate level, it comes as surprise that no government at any level has a ministry or governmental agency tasked with the affairs of local self-government. The plethora of sub-national laws regulating this area, with poor coordination, especially in the early days of FBiH, put the municipalities in an unfavorable position. The situation had somewhat improved with strengthening of associations of municipalities and cities, but also partially because of the growing awareness of the importance of local level not only in delivering the services efficiently, but what is more important, in building trust between the people. Another factor that might play a key-role that is examined in this thesis is the new system of intergovernmental transfers, introduced together with the VAT on the state level. At the moment, there are 79 municipalities and two cities-Mostar and Sarajevo, in the Federation of BiH. Municipalities differ significantly in size and population, varying from small detached parts of the pre-war municipalities which formed new ethnically congruent units, to the big urban centers. Cities are consisted of several urban municipalities, which joined can enjoy the economy of scale and externalities in service delivering. Local councils are elected on open, direct election, with universal suffrage. They cannot be dissolved by the higher authority, but legal acts such as municipal Statutes, can be

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challenged by the cantonal authorities before the Constitutional Court of Federation, only if such acts are against the Constitutions. Also, cantonal laws restrict the scope of supervision only to the tasks delegated by the cantonal authorities to the local level, and in accordance with the European Charter on Local Self-Government, the intervention of the cantonal

authorities should be kept in proportion to the importance of interests which it protects. Chief local executives (mayors and heads of municipalities) have been directly elected since 2004 in both entities. Municipalities are also free to associate and collaborate with other municipalities in the country and abroad. The decentralization of FBiH has stopped at the level of cantons. Although this intermediate level does have advantage of the economy of scale in providing some services and internalizing the externalities, this new level of authority is not historically or legally rooted in the Bosnian society. It is an unnatural division imposed to keep the most of resources at the local level under the control of technocratic parties. Cantons very often encroach on the powers of the municipal level, which makes it difficult to develop the accountability at grassroots level. Municipalities have different position in the intergovernmental system, depending in which canton they belong. In general, there was no political will to strengthen the position of municipalities, as the political reality dictated the development not only of intergovernmental relations in FBiH, but in the whole as well. 1.4 Local Governance in Republika Srpska The smaller BiH entity, Republika Srpska has not existed before the war as a territorial unit comprising Bosnia and Herzegovina. It is a product of the nationalistic expanding politics that erupted after the dissolution of Yugoslavia, joined with secession forces in Bosnian society. It has a unitary form with strong central government and no intermediate level of authority. In Republika Srpska, there was no need for decentralization polices because of the

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high degree of ethnic homogeneity achieved by pursuing the politics of one nation on one land during the war. The question of local self-governance is addressed in the Constitution of RS in several articles, and is given high importance as for example Art 5 proclaims local selfgovernment is one of the fundaments the constitutional arrangement of the Republic of Srpska is based on. Furthermore Art 66 stipulates that selfgovernment constitutes a basic socioeconomic relations of RS , and that the borders of its autonomy are protected. Despite these provisions, the RS Constitution does not explicitly guarantee the independence of selfgovernment units, and treats them more as territorial arrangements than a genuine devolution of power. The Law on Local Self-Governance, however, compared to the federal level is much more detailed in description of competencies to the municipalities. It also lists a range of legal measures for protection of the autonomy on the local level. Similar to FBiH, the Law does not distinguish between rural and urban municipalities, but it makes distinction between municipalities and urban amalgamation-cities. The same conclusion for the position of municipalities in the intergovernmental system in FBiH can be drawn for Republika Srpska. But in case of this smaller BiH entity, the reason for centralization of power on the entity and cantonal level is not the unfinished decentralization as in the case of FBiH. This centralization is a deliberate policy of strengthening the statehood of Republika Srpska by concentrating power at the entity level. The prevalence of the ethnic criterion and national exclusivity were decisive in shaping the politico-administrative structure of RS, which has profound consequences on the public sector functioning in that entity.

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CHAPTER 2: FUNCTIONS OF LOCAL GOVERNMENTS OF BOSNIA AND HERZEGOVINA

IN

FEDERATION

The assignment of functions in countries with complex internal structure, consisting of several tiers of government, is extensively discussed in the theoretical literature. Canons of fiscal federalism do not leave much uncertainty about the proper aligning of the expenditures between the central governments and subnational governments, regardless whether political arrangement in the country is of unitary or federal nature. The casting of the three branches, allocation, stabilization and distribution between has been already discussed at the introductory part. Here, I will add few important considerations not mentioned previously. Because of openness and small size of the local economy, efforts aimed at boosting local economy can actually end in some other jurisdictions. Local governments might simply have too small capacity to absorb new investments. Another important aspect is the tendency of local governments to free ride on the publicly provided goods with spillovers from other jurisdictions, and to engage in strategic games. Debt and borrowing policy of the central government and subnational governments is often in the focus of intergovernmental relations. The imprudent and narrow-sighted borrowing policy of the local governments can lead into destabilization of economy, if followed by the bail-out policy of central government. However, central government very often shifts the burden of deficit to the local governments

20

by assigning them competencies which are not followed by appropriate revenues. The redistribution function on the local level is possible only if there is limited mobility of the poor, the rich and businesses between jurisdictions. The redistributive role of the local governments is becoming increasingly more important with decentralization of the provision of services. The most important criterion in assigning the expenditure functions to the local governments is efficiency. This criterion requires that government assigns the functions to the lowest level of government, in which the benefit area of the service, decision-makers on local goods and jurisdictions of tax payers are the same (McLure and Vazquez). What criteria should be used in determining the optimal size of the jurisdictions? Oates (1972) for example suggests the following criteria: individual preferences; economies of scale; spillovers or externalities; congestion costs and information and decision costs. In a decentralized setting with heterogeneous preferences, local government can reduce welfare losses occurring when the provision of public goods is centralized. Although it would be optimal from the point of view of fiscal federalism to have as many local authorities as the number of public services provided, the costs of participating in the decision making process would be too high. Consequently, there is a good argument reducing the number of local authorities to the acceptable level. Economies of scale in providing some public goods can also have impact on the size of the local jurisdictions. Lower cost per unit of bigger jurisdiction can bring lower prices to the consumer and therefore increase the consumers welfare. Provision of goods by the local governments can spill-over the boundaries causing underprovision of services and free rider behavior of the beneficiary jurisdiction. There are three possible solutions to the problem: compensatory subsidies, expanding the jurisdiction boundaries to match the real scope of provision of services or exclusion of free-riders from accessing the services.

21

Economists do have a key-role to play in describing and evaluating the economic criteria, but the weights attached to each of those criteria in the final addition are prominently those of politics (Dafllon, forthcoming). After all, the success of decentralization can be measured by the extent it fulfills the tasks set by the government. But very often the existing political tiers of government are not the optimal ones according to the efficiency criteria. Here, economic arguments are not central to the debate, because the debate is about distribution of power between existing political tiers. Those de facto existing political tiers and centrifugal forces which emerged during the conflict in BiH, have set the limits within which new function assignment scheme could have been developed. The three nations had different views about the functions of which should be assigned to the different tiers of government. The result was the state with extremely weak central governments, and asymmetric decentralization of two entitles of which it consists. Table 2: Assignment of expenditures in Bosnia and Herzegovina
Entities Federation of BiH Expenditure Assignment State Immigrati on refugees and asylum policies Immigrati on Monetary Policy Internatio nl and Interentity Criminal Law enforcme nt Federation Canton Republika Srpska Municipalities Republic Municipalities

Immigration, Refugees and Asylum Policies Immigration, Monetary policy?

Refugees and displaces persons

Justice, International Seciruty and Police

Internal Affairs/Justic e and Police. Transfer of Police to State level pending successful negotiations

Police

Internal Affairs/Justice and Police. Transfer of Police to State level pending successful negotiations

Local Police

22

Communicati ons

Public Transportatio n Socila Safety Net and Welfare

State Inter-entity Regulator regulations y Agency Regulates National Trans. Intra-entity System and Interentity Refugee Programs State Tranmissi on Regulatio n Pension System

Regional TV and radio

Intra-entity regulation

Regulates intra-canton

Intra-entity

Social Assistancejoint

Social Assistance joint

Pension System

Social Assistance

Energy

Intra-Entity Regulation

Intra-entity regulation

Roads Reformed to State level

Highway Roads

Regional Roads

Local Roads

Highway Roads

Local roads

Defense

Universities Teachers salaries Education Secondary and primary education Federal Health Insurance Fund Primary and Secondary Health Care Health Insurance Funds

Pre-school education Primary schools partially maintenance School buses Ambulance services

Universities Teachers salaries School buildings

Pre-school Primary school partially maintenance

Health Care

Primary and secondary Health Care Republic health Insurance Fund

Ambulance services

Sanitation Water and Pubic Utilites Housing and Spatial Plannin Sweage Treatmen Housing Policy

100%

100%

100%

100%

City planning

Housing policy

City planning

100%

100%

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Culture, Sport, Recreation, Parks, Street Lighting Fire protection Libraries Environment al and use of natural resources

Museums, Theaters

Culture, sport, parks, street lighting

Museums Theaters Joint Responsibilitie s

Culture, sports, parks, street lighting Joint Responsibilities 100%

Joint Joint responsibilities responsibilities 100%

Concurrent responsibility

Concurrent responsibility

State Government had very few expenditure functions assigned to it, and it was without any tax handle at its disposal before introduction of VAT. All functions which are not explicitly assigned to the state level belong to the entities. Until the recent reforms of the defense system, when the competencies were shifted to the state level, the central government practically did not have any major spending responsibilities. This is reflected in the share of the subnational governments in the overall public expenditure. Table3: BiH Consolidated Budget 2000, estimate. Source: World Bank
Million KM 4695 25 3452 892 1174 231 1154 1199 784 107 309 20 Revenues % of Total 100 0.5 73.5 19.0 25.0 4.9 24.6 25.5 16.7 2.3 6.6 0.4 % of Entity Expenditures Million % of KM Total 5233 100 69 1.3 3713 937 1272 294 1211 1428 862 115 451 22 71.0 17.9 24.3 5.6 23.1 27.3 16.5 2.2 8.6 0.4 % of Entity

Total State Federation, o/w: Federal Cantons Municipalities Public Funds Repubika Srpska o/w: Central Government Municipalities Public Funds Brcko

100 25.9 34.0 6.7 33.4 100.0 65.3 8.9 25.7

100 25.2 34.2 7.9 32.6 100.0 60.4 8.0 31.6

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The decentralization in FBiH has stopped at the cantonal level. Only 7.9% of the entity aggregate budget is executed on the municipal level in Federation. However, if we exclude budgets of municipalities and measure federal and cantonal budgets as a share of the consolidated budget, one might conclude that Bosnia and Herzegovina is one of the most decentralized countries in Europe. If we for example take only the Federation and compare it with other federal countries, the share of municipal expenditure still remains to be extremely low.

Figure 2: FBiH comparative share of municipalities federation countries. Source: World Bank
25 20 15 10 5 0
Swit zer la nd Un it ed S tate d Ca n ada Ger man y

FBiH Comparative intermediate Gov. Expenditure. Source World Bank

70 60 50 40

FBiH
India

Sou th A fric a

Can ada Arg entin a

Aus tr

alia

Bra z il

FBiH Aus t ra li a

30
Mex ic o

20 10 0

In the Federation of BiH, all functions not directly assigned to the entity level are the competencies of the cantons. This level of authority had a broad range of competencies assigned to it, which reflects Bosnian ethnic post-war reality. In designing cantonal borders, the notion of subsidiarity from the European Charter on Local Self-Governance was one of the elements used. But the element with the most weight attached to it certainly was the ethnic criterion. Similar to this, assignment of functions to the cantons also followed the pattern of

25

rlan d Bra zil Ge r m an y Unit ed S tate Sou s th A fri ca Spa in M ex ico

Spa in

Swi tze

preserving the resources on territory in the hands of the ethnic group. Other factors such as the socio-economic cleavages in the form of the need for distinction of mother language, religious factors (although this is overlapping with the ethnic factors) and the still fresh memory of the unsuccessful former Yugoslav redistribution mechanisms, have all had an appealing effect in assigning functions the cantons. The absence of any horizontal equalizing policy can be attributed to the bad memory of the former state fiscal system. The functions assigned to the authorities can be divided into exclusive, concurrent and overlapping. We will use this division to examine how functions are assigned in Federation of BiH.

2.1 Functions exclusively assigned to Federation level The Federation of BiH entity in fact was created as a typical federal state, with checks and balances mechanisms and some elements of the consociational federalism. Until recently, it had exclusive competencies over the defense and fiscal policy (including tax administration and tax policy), but with recent establishing of the state ministry of defense and introduction of VAT on the state level, it has lost part of its competencies. Still, the Federal government has retained exclusive competencies over the economic policies, production and distribution of energy, highways and railways. Extra budgetary funds such as Pension Fund and Road Fund are constituted on federal level. Categorical social assistance for war veterans, disabled and their families is also part of the federal government functions.

26

2.2 Functions assigned to canton and functions delegated to municipalities Cantons have a wide range of functions assigned to them. It includes health care, education policies implementation, cultural affairs, housing, social assistance, tourism and local businesses. Cantons can delegate some of the functions to municipalities, and in case that a municipality has ethnic majority other than that of the canton, it is constitutionally mandated to do so. Each canton has adopted a Law on Local Self-Governance, which further regulates municipal responsibilities and sharing of competencies between these two levels. Figure 3: Average cantonal expenditure by functional category (2002-2003). Source: USAID GAP
2% 9% Education 11% Public Order and Security 41% General Public Services Social W elfare other 13% Housing Culture Defense 22% 2% 0%

The broader definition of the subsidiarity principle was used in assigning the expenditure responsibilities to cantons. Too strong a federal government would not have enabled for the specific ethnic interest to be realized, and it bore a negative message from the past socialist redistributive policies. In this sense, the border of the cantons and new municipalities which emerged has been not taking into account economies of scale in providing services and spillover effect. In most cases, the boundaries between cantons were drawn to accommodate the ethnic criteria of keeping the control over the resources and providing the services to the proper ethnicity.

27

Health care funds exist on the cantonal level, though the spillover effect is significantly present increasing the tax burden of the local tax payers. This was partially offset by establishing the Federal Health Care Solidarity Fund, which has the function of pooling the risk of the cantonal funds and introduces the economy of scale in the health care system of the Federation. Though it has been constituently guaranteed that cantons can shift responsibilities to the federal level, this has not occurred so far. In the area of education, cantons have retained all the competencies: educational policy in general, academic curricula and research, and teachers salaries, in all three levels of education. Some cantons (Canton 10, Herzegovina and West Herzegovina) have responsibilities for school maintenance and pupils transportation. Present here is also the inability of cantons to internalize the spillover effect in providing the educational services, especially on tertiary level. This has caused underprovision of services and misallocation of the public funds, because the cantons cannot restrain students from other jurisdictions in capturing part of the benefit. The solution would be to shift the financing responsibility to the upper level, either federal or the state one. Social protection is also responsibility of the cantons, though federal government provides categorical social assistance and unemployment benefit. The delivery of the service is delegated to the municipal level, while financing is provided by cantons. This fragmented system of social protection caused huge disparities in the level of social assistance. Better-off cantons (e.g. Sarajevo) with higher taxable base and revenue raising capacity provide their citizens with significantly higher social assistance (for orphans, elderly and displaced persons and refugees) than the worst of cantons (Cantons 10, Gorazde or Posavina). As a result of the unfunded mandate, the arrears of unpaid entitlements in those cantons have been already accumulating for years. Though mobility of population is relatively

28

low in BiH, cantons can not provide the redistributive effect which Federation would have as a bigger territorial unit. Therefore, as in the case of education, financing of the social assistance should be done by the federal level, but actual delivery of services needs to be retained in municipalities. 2.3 Concurrent responsibilities The Federal Constitution provides that the Federation and cantons can exercise joint functions in certain areas. The Federal government has concurrent responsibilities with cantons and municipalities in the health policy implementation, education, internal affairs, environmental protection and social protection, but all functions not explicitly assigned to the federation are the responsibility of cantons. 2.4 Functions assigned exclusively to municipalities As it is provided by the Constitutions and Laws on Local Self-Government,

municipalities have exclusive responsibilities in urban planning, provision of local utilities (delivered by the off-budget municipal enterprises), pre-school education, students transportation, libraries, parks and museums and other responsibilities delegated by cantons. Regardless of legal provisions, municipalities in FBiH have been severely restricted as decision-makers in any of these fields, and it is even more pronounced by the weak ownrevenues assigned to the municipalities. The municipal level not only in the FBiH, but in the whole country as well, has been seized by the post-war political setting, in which the prevailing criteria were of ethnic character, not the economic efficiency or citizens welfare.

29

30

CHAPTER 3: REVENUE SOURCES

3.1 Reasons for decentralizing revenues. The question of decentralization of the revenue assignment is much less clear-cut than for the expenditures. One of the arguments mostly used is that of accountability, which means that subnational governments will be more responsible to their constituency. This will result with more efficient and prudent use of the locally raised money (Boadway and Shah, forthcoming). The central government can use its assigned fiscal weight to affect the subnational governments spending priorities. Another important consideration is the uncertainty which local governments face when the central government decides unilaterally to change the funding of subnational governments. This will affect the predictability of the revenue stream for the SNU and their long term budgeting capabilities. On the other side, decentralization of the taxing powers can seriously compromise the efficiency and the economic unity of the country. Decentralization can distort allocation of labor, capital and businesses, and it can lead to wasteful tax competition between subnational governments. Different redistribution standards between the states can significantly jeopardize the national equity objectives. Administrative costs of tax collection can also increase because of reporting to several layers of authorities. Modern federations assume great spending responsibilities, for which they need broad-based tax handle. If the states are left with narrow tax base, they might be tempted to use it too excessively to the detriment of the whole system.

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Proper assignment of taxes needs to follow certain rules, if it is to be successful. In modern federations, governments employ a mix of broad-based taxes, that spread the burden of tax raising across large number of taxes, which keep any tax rate low. In the federal economy, there is also a question of how those taxes should be allocated among the levels of governments. If, for example, the constituent land is given limited tax sources, then the tax rate in that state might be set too high from a point of view of a desired tax mix . There are several principles which need to be observed when deciding on the assignment of tax to lower governments (Boadway and Shah, forthcoming): Efficiency of the common internal market may be jeopardized by the different taxing

of the same transaction in constituent states. This can lead to distortion of business decision, which would be based only on tax differences. Firm operating in more than one jurisdiction faces increased administrative costs when working with two different tax structures, and taxation of mobile factors. National equity is usually understood as an intention to treat all citizens equally for the

redistributive purposes. This is often seen as the task of the central government, as only the central government can ensure that citizens in all regions are treated equally. But the taste of the states can differ in that regard. If the redistribution is viewed as the central government, then the instruments suitable for redistributing, such as income and wealth taxes should be under the central government control. Administrative and Compliance Costs can be reduced by joint collection of state and

federal taxes, both on the sides of the government and taxpayers. The tax system should be as simple as it can be, compatible with achieving other goals of the system.

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Fiscal and Political Accountability principle states that fiscal accountability is greater,

more jurisdictions are required to finance their expenditures. Revenues sources should be matched with the expenditure needs as closely as possible, as the accountability is fostered by the close scrutiny of the electorate.

33

These principles have been significantly compromised in case of revenue assignment in Bosnia and Herzegovina. The Central Government (CoM) practically did not have any taxation power, until the recent introduction of the VAT on the state level. In the peace agreement, CoM was given only some minor fees (such as passport and diplomatic), without any own source revenues. Financing of the State expenditures, until the VAT introduction, was done by transfers from the entity level. FBiH contributed 2/3 to the State budget, while Republika Srpskas contribution was 1/3. Asymmetric and decentralized solution for revenue assignments left the CoM without any real tax leverage. This had as a consequence huge disparities in the revenues of the subnational governments, most notably between cantons and between municipalities. The Council of Ministers or the Federal government did not have any active policy aimed at decreasing those disparities, before the reform of the taxation system. 3.2 Situation before the introduction of VAT

34

Prior to the introduction of the VAT, a revenue sharing in FBiH was regulated by the Law on Allocation of Public Revenues. Federation Entity was exclusively assigned custom and excise revenues, and corporate income tax revenues from the companies owned by the Federal government. The customs policy is harmonized across entities by the CoM. However, customs entirely accrue to the entity governments. The importance of customs is declining however, due to the free-trade agreement with neighboring countries. Corporate income tax is assigned both to the Federation and to the cantons, but tax rate and tax base is regulated by the Federal government. Each canton, with the exception of Sarajevo, has passed a Law on Revenues Sharing which regulates sharing of revenues for respective canton and its municipalities. The most important shared tax was Sales tax, a general turnover tax, which is assigned 100% to cantons, and shared with the respective municipalities. Personal income tax (PIT), in a form of the wage tax also accrued to the cantons, but the rate and the tax base are determined by the Federal government. It is again based on the derivation principle, ensuring that the tax stays in the canton/municipality of origin, or better to say of place of work. Property and property transfer tax is shared between the cantons and municipalities, with 80% going to the canton and 20% to the municipality in most of the cantons. The tax is regulated by cantons, but the potential of this tax is still not fully understood by the

subnational authorities. Appendix A contains sharing ratios for all taxes before introduction of the VAT. Figure 3: Structure of cantonal revenues for 2003. Source: GAP

35

Municipal (or local) taxes are the taxes over which the lowest tier of governments has the right to regulate tax base and /or a tax rate. Local taxes have not been used adequately to finance municipal expenditures or to re-allocate resources on the local level. Municipalities prefer to rely on the shared tax, which does not allow for development of a genuine local tax effort. Very few of these taxes are regulated exclusively by cities/municipalities, except for the user charges which are collected and appropriated by the off-budget companies. On the one side, these charges and taxes on the level are extremely fragmented, and on the other the potential of the property tax as the most buoyant and stable local tax is still underutilized not only in the FBiH, but in the whole BiH as well (GAP 2005). Figure 4: The Structure of Municipal Revenues by Canton. Source: GAP

36

100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%

3% 13%

8% 8%

2% 11%

0% 12%

2%

4% 9%

2% 4%

1% 11% 0% 34% 33%

2% 4% 19%

2% 14%

27% 28% 28% 13% 6% 4% 9% 3% 5% 5%

23% 35% 26% 6% 4%

21% 4% 4%

24%

22% 23%

3%

14% 1% 23% 16% 3%

30% 34% 1% 23% 13% 1% 4% 7% 29% 25% 32%

1% 11% 40% 17% 2% 0% 26% 0% 2% 7%

24%

41%

21%

14% 7%

14% 9%

5% 12%

10% 8% 16%

2% 11%

15% 8%

other grants fees & charges asset income citizens taxes sales taxes property taxes wage taxes

10 ALL

In 2003, municipal revenues from all sources amounted to 268 million of KM of all public spending in FBiH. More importantly, municipal revenues in 2003 represented only 3.2% of FBIHs GDP, which was 8.340 million KM (see figure 2 in Chapter II for comparative world overview). This all suggests that municipalities in the Federation are under-funded, and that system is in serious vertical imbalance (GAP 2005). Horizontal fiscal imbalances are also huge in the Federation. There are serious disparities in per capita revenues between municipalities and cantons. This does not come as a surprise, having in mind that that share of the taxes assigned to municipalities differs significantly from canton to canton. Fiscal capacity of the cantons varies, which compounded with the derivation based taxation further exacerbates these disparities. None of the cantons (perhaps with exception of Canton Tuzla) has introduced the mechanism for fiscal equalization. The magnitude of disparities between the cantons is illustrated in the next chart. By far the richest canton (Sarajevo) has three time bigger per capita revenue than the poorest canton (Central Bosnia). Figure 5: Total per capita revenues of cantons in 2003. Source-GAP

37

1,600 1,400 1,200 1,000 800 600 400 200 0 1 2 3 4 total cantons 5 6 7 8 9 10 113 408 489 210 148 114 396 497 92 90 359 478 513 339 255 191 1,168 157 173

385

total municipalities

Even in the case of Tuzla Canton, where the five poorest municipalities were assigned larger share of revenues, the disparities still remain to be large. Disparities caused by the poor fiscal capacity of the municipalities cannot be eliminated unless there is a proactive equalization policy. But the Federation has no available tax revenues that could be used for this purpose. Figure 6: Estimates of Disparities in Per Capita Municipal Revenues: Canton 2, 3 & 5. Source: GAP

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3.3 Tax System Reform-A Policy Window for Fiscal Equalization In 2003, CoM has initiated a major reform of the taxation system, which was one of the requirements for accomplishing the tasks from the European Union Feasibility Study for Bosnia and Herzegovina. New Agency-the Indirect Taxation Authority (ITA) was established on the state level, with the competences of collecting all indirect taxes in both entities and Brcko District. A framework Law on System of Indirect Taxation (LSIT) and Law on Value Added Tax (VAT) were passed, that were harmonized with the EU Sixth Directive. Fiscal Council-a new body for intergovernmental coordination of fiscal and budgetary police was established in 2005, members of which are the Entity Ministers of Finance, State Ministers and their deputies, as well as Entity and State Prime Ministers. In 2005, ITA started with collecting indirect taxes (the sales tax, customs, excise and road fee) to the Single Account, in accordance with the Law on Single Account. Starting from January 2006, the sales tax was replaced with 17 percent of VAT, and all indirect taxes in the country now flow in to the Single Account. Figure 7: New Structure of Indirect Taxation System in Bosnia and Herzegovina
ITA Steereing Board
39

Fiscal Council of BiH Brcko District Budget

SINGLE ACCOUNT Republika Srpska Budget Indirect Taxation Authority (ITA)

FBiH Budget

Council of Ministers

LSIT does not oblige ITA to trace the origin of the revenues below the entity level. Therefore, as of 1 January 2006, the derivation principle can no longer be applied for allocation of revenues in the FBiH. The state has a priority in being financed from the Single Account revenues, but there is a need for developing a mechanism for allocation of what is left to the sub-entity governments. These revenues represent a huge portion of the sub-entity income, amounting up to 70% of the cantonal income and 21% of municipal. The sharing ratio between the entities and the Brcko District is defined in the LSIT, but it has been the subject of much of political debate recently. It depends on the number of the processed VAT invoices from entities, a procedure which the smaller BiH entity sees as biased and unjust, as according to them, invoices from the FBiH are given priority. The amount to be distributed to the entities can vary in the future, depending on this highly politicized decision. Consequently, the federation, cantons and municipalities could face uncertainties in the amount of income from the Single Account. This is partially offset by the improved tax collection and fiscal compliance, which is inherent to the VAT. Still, there is an urgent need to reduce the presence of politics and resolve this issue on the expert level. ITA has justified its existence by collecting, 1.55 bill. KM of indirect taxes and customs in the first five months of 2006, which is comparably much higher than the amount of 1.39 bill KM collected by the three separate tax and custom authorities. The plan for this year is to collect 3.5 bill. KM of indirect taxes and customs, which is realistic, having in mind that the tax rate of 17% has been set higher than it would be the neutral tax rate replacing the sales tax, and the fact that the Law on VAT does not envisage exemption or zero rate, except for exports.

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CHAPTER 4: NEW INTERGOVERNMENTAL TRANSFER SYSTEM FEDERATION OF BOSNIA AND HERZEGOVINA

4.1 Theoretical Framework

IN

As it was already discussed in chapter II, vertical fiscal imbalances FBiH are significant. Absence of any kind of information about the municipal expenditures and very few available for the cantons, make the task of quantifying the imbalance very difficult. Still, it can be said that the municipalities are uderfunded, while the most buoyant taxes are assigned to the cantonal level. Horizontal disparities between cantons and between municipalities also pose a serious obstacle to the economic convergence and creation of a single economic space in BiH.

41

The intergovernmental transfer system can be introduced for four good reasons (Bahl 1999). First is the question of vertical imbalances, when the subnational governments are allocated responsibilities in providing services, but the most buoyant revenues are kept at the central level. There are two solutions to this problem: either sub-national governments are given more revenue-raising powers, or there are revenues transfers to fill the gap. The question of precise measuring of the vertical imbalance is not easy to resolve, especially in the conditions of constrained data availability. New transfer system in FBiH has taken historic (year 2005) information on cantonal and municipal revenues as starting point, trying to increase their share in the public revenues through new transfer system. Second, transfer system can be used for fiscal equalization between the sub-national jurisdictions. Horizontal inequalities are natural occurrence, and they reflect the diversity of the resources and economic potential of the subnational governments units (SGU). Mobility of the people and capital from less productive to more productive regions increase efficiency, but the fiscal system should be designed to have minimal impact on the allocation of factor of production. Third, equalization policy of the government can also be implemented by assigning the ownsource revenues to the SGU, but more typically it is done through transfer system. Fourth, externalities occur when the SGU decided to underspend on the service with significant spillover effect. Transfers can be used to correct these anomalies, and at the same time central government can influence spending patterns of the SNU. There are following types of intergovernmental transfers (Bird and Tarasov 2002): Revenues sharing. Under this arrangement, SNU can keep certain percentage of the

tax collected within their territories. The revenue is shared based on its derivation, and fixed percentage is returned to the jurisdiction of origin, or it can be divided strictly of per capita basis.

42

Unconditional (general purpose) block grants have no strings attached to it. Because

they are unconditional, SGU have substantial policy discretion over spending it. Grants used for equalization purposes are most frequently unconditional grants. Matching grants are conditional grants which require a specific contribution by the

SGU in a particular expenditure area. Matching grants can be designed very specifically or for the whole sector; rate of matching of central government can vary depending on the central government desire to influence spending in certain area; and it can be open-ended or capped.

43

Cost reimbursement is a scheme through which central government reimburse local

governments for certain approved costs. These types of transfers are recommended when central government relies on local government for implementation of certain types of programs. Ad-hoc transfers are the least desirable type of transfers. The distribution of grant is

left to the discretion of the central government or one of its agencies. This approach opens the door for the political manipulation and buying favors for the grant allocation. It hardly ever results with the grants allocated on the sound fiscal principles. Under the shared revenue scheme for grant distribution, each SGU receives a share of tax colleted within its boundaries. This type of grant allocation scheme was operating on the cantonal level in FBiH before introduction of VAT. Revenue sharing distribution scheme are inherently not equalizing, as richer municipalities and cantons were receiving proportional larger amounts of tax. Another problem with this approach is that it discourages autonomy and accountability on the local level, as the tax being centrally collected and tax rate and base centrally determined, local population would not hold local officials responsible for quality of services provided. This was very much case in FBiH municipalities and cantons. Though there were not too many centrally determined expenditure mandates for municipalities, local officials did not use this freedom in spending the revenues to increase accountability and improve quality of living, except in rare cases. On the other side, revenue sharing is stable and predictable source of income for SGU. It allows them to plan and forecast future revenues with certainty, but on the other side, it is more difficult for the central government, as it was the case in FBiH Government, to influence the fiscal area. FBiH Government did not have tax capacity to equalize between cantons and municipalities, as the all major taxes were either assigned or shared with the cantons.

44

Another common approach used in distribution of pool of revenues is formula based transfers. Using formula for allocating grants between the SGU generally improves the transparency and reduces discretion in deciding about grant allocation, as all know exact criteria according to which distributions are made. Flexibility of formula allows for changes as the needs for public expenditure change. Four main components of the formula are: elements of the formula; data necessary to calculate the formula; cost associated with administering the system, and finally conditionality, should be designed to reflect objectives of the grant program.

45

Grant allocation formula might in the first place reflect difference in expenditure needs across the SGU. Different regions in the country differ in their cost of providing standardized basket of public services, because of differences in needs (for example percent of school aged children or retired), incidence of poverty or unemployment or geographical conditions. Countries use various indicators of expenditure needs. Lagged expenditure values are the simplest and in most cases available data for quantifying expenditure needs. Using historic expenditures obviously has the risk of not incorporating possible changes in expenditure patterns or inflation over time. Expenditure needs can also be measured bottomup, by calculating costs of current expenditure obligations of SGU. However, this approach is data-heavy and requires well elaborated procedure how to cost expenditure of SGU. Third and more widely used approach is estimation of some type of weighted index of relative expenditure need. These indexes try to capture some of the factors which determine the cost differences in delivering standard basket of services. Factor could be demographics, to include special needs of young and elderly, or other factors such as illiteracy or unemployment. One of the problems with the index-based approach is the political pressure for inclusion (exclusion) or weighting of some of the factors that might be beneficial (or harmful) for specific SGU. The weights which ought to represent relative contribution of each factor to the overall measure of need can be easily calculated using some statistical method. However, these weights are often determined on ad-hoc basis, subject to political pressure. Formula should include limited number of factors, as inclusion of too many factors reduces transparency and increases costs of collecting data. Data used in formula should come from a official agency, and should be updates regularly, every year of two.

46

Revenue capacity of the SGU government can be defined as the potential revenue that could be raised from the tax base assigned to the SGU, if and average level of effort is applied to the tax base. Two SGU with the same fiscal capacity may collect different tax amount as the result of applying different tax rate or because of different enforcement efforts invested in collecting revenues. Finally, taxpayers compliance, ceteris paribus, also can influence level of collected tax. Using actually collected revenues might provide SGU with negative incentives, as the SGU which collects more revenues would receive less of transfers. Different proxies of revenue capacity have been used in countries around the world. Level of collected revenues or lagged revenues from the previous year is used very often, but the actual revenues can provide the SGU with perverse incentive to decrease tax effort. However, in majority of the transitional and developing countries, where the SGU have limited tax autonomy and bulk of their come from tax sharing, local fiscal capacity can be safely measured by actual or forecasted level of shared revenues and transfers (Boex and Martinez-Vazquez 2004). Another widely used measure for fiscal capacity is Gross Regional Product (GRP) which is more comprehensive measure than the level of per capita level of personal income, because it includes incomes generated within regions irrespective of worker or producer residence. In the absence of clear and unambiguous measures for quantifying expenditure needs and fiscal capacity, second best approach is to multiple factors as elements in the formula. In this case, pool of revenues is allocated in proportion to some allocation factors that together represent a proxy of SGU fiscal capacity or fiscal need. In this approach, a number of factors are selected, and then each of them is assigned weight, determining hwo imprant is each of them in final allocation. SNU unit will receive its share in proportion to that factor. Particularly poor or depressed region might still need additional transfers, as the formula might not capture all extreme conditions in these SGU. For those SGU, it will be necessary to include special weights for equalizing their fiscal capacity and expenditure needs.

47

4.2 New Formula Based Allocation Mechanism in FBiH Government of FBiH has passed a new Law on Allocation of Public Revenues (Official Gazette 22/06), using the for the first time formula for distribution of revenues from to sub-national level. Both entities and Brcko district will receive revenues from ITAs Single Account according to the processed invoices from their territories, and after the revenues are transferred to the state budget for financing CoM functions. Of this amount, FBiH will distribute: 36.2% for financing function of entity level; 51.48% for financing of cantonal functions, 8.42% for financing municipal level functions, 3,9% for Road Fund. The formula is based on a number of weighted factors which try to capture differences in expenditure needs and revenue capacity of cantons and municipalities. Table 4: Weights for cantons and municipalities used in allocation formula Weights Area Population Elementary School Children Cantons 0.06 0.57 0.24 Municipalities 0.05 0.68 0.20 Secondary School Children 0.13 Development Index 0.07

48

In addition to this, formula contains a weight for special spending needs of Sarajevo canton, which is 2. Two cantons, Gorazde and Livno, which had the smallest revenue from the sales tax in derivation-based system, are also given a special weight of 1.8. Formula has a factor of 1.2 for municipalities with over 60.000 of inhabitants, and 1.5 for the municipalities covering the costs of elementary schools. Index of development actually measures fiscal capacity factor of the municipality. It is calculated as the average of the collected sales tax and income tax for respective municipality for 2005. Weights for the fiscal capacity are in the range between 1.8 for municipalities with below 20% of the FBiH average collection of those taxes, to 1.2 for municipalities with below 80% of average. All data used in formula are collected by Statistical Agency of FBiH, and are the best possible data obtainable at the moment. It is, however, unclear what method was used in calculation of particular weights attached to formula factors. At the moment it is not possible to obtain any reliable information on municipal expenditures which could be used for calculation of weights, either using regression or simply as historic information. New Law envisages six years phase-in period for implementation of the system. This solution is fully understandable having in mind magnitude of current horizontal fiscal disparities on one side, and on the other level of investments and long-term expenditure in better-off cantons and municipalities. Phasing-in period combines percentages of sales tax collected prior to the introduction of new system, and gradual introduction of percentages according to new formula: Cantons Year 1 (2006): Cs = (0.9*HCs + 0.1*NCs) Year 2 (2007): Cs = (0.7*HCs + 0.3*NCs) Year 3 (2008): Cs = (0.5*HCs + 0.5 *NCs) Municipalities Ms = (0.9*HMs + 0.1*NMs) Ms = (0.7*MCs + 0.3*MCs) Ms = (0.5*MCs + 0.5 *NMs)

49

Year 4 (2009): Cs = (0.3*HCs + 0.7*NCs) Year 5 (2010): Cs = (0.1*HCs + 0.9*NCs) Year 6 (2011): Cs = (NCs)

Ms = (0.3*HMs + 0.7*NMs) Ms = (0.1*HMs + 0.9*NMs) Ms = (NMs)

Cs, Ms Percentage of the share in the pool of indirect taxes in the FBiH for canton and municipality, respectively; HCs, HMs Historical share in the sales tax in FBiH of canton and municipality, respectively, and;

50

NCs, NMs Percentage of share the according to new system for cantons and municipalities, respectively. The pool of indirect taxes available for distribution in FBiH is determined in percentage of the indirect taxes, in the first place VAT, collected to the Single Account of ITA. ITAs estimation is that in 2005 about 3.5 bill. KM of indirect taxes will be collected 3. State budget forecasts 566 mil of indirect taxes to be transferred for 2006 from Single Account for financing central government functions and service of foreign debt. This leaves amount of 2,934 bil. KM to be allocated between FBiH, RS and Brcko District Distribution of revenues between entities and Brcko District has been subject of much debate recently, when officials from RS claimed that distribution mechanism is unjust and this entity was losing millions of KM every month. However, if we take percentages for June 2006, which allocate 66.77% to FBiH, 29.76% to RS and 3.46 to Brcko District, and apply them to the amount forecasted amount for 2006, then amount available for distribution in FBiH is 1.95 bil KM. Applying percentages for allocation between FBiH level, cantons and municipalities, in 2006 cantons will receive 1.008 bil KM and municipal level 164.9 mil KM. Comparing to 2005 level, municipalities will receive 72% more and cantons 2% more of indirect taxes. At the end of phase-in period, municipalities will have at its disposal significant share of the public revenues in FBiH. This will call for evaluation of the assignment of functions to municipalities, and possible re-aligning of functions between tiers of governments in FBiH. Any changes in intergovernmental relations should reflect the role of municipalities as the closest tier of government to the citizens, but also potential threat of low capacity on the local level to implement newly assigned functions.

ITA press statement from June 5, 2006. 51

4.3 How good new system performs? To test how well new formula based transfer system does the job, we have run simple LSE regressions to determine the correlations between the dependent variable - amount of transfer per capita for cantons and municipalities, and several indicators revenue capacity and expenditure needs independent variables. As indicator of revenues capacity, we have selected GDP per capita and PIT per capita of cantons and municipalities, and as indicator of expenditure needs, we have used population. Sarajevo municipalities were given as one sum, and we have reduced number of observations from 79 to 71, taking all Sarajevo municipalities as one. The results of regression are given below, while Appendix contains calculated per capita amounts of transfers to cantons and municipalities for 2006 and 2007 (t-statistics is given in parenthesis): Cantons: Transfer2006 = 44.11 + 0.118*GDPpc (3.42) Transfer2007 = 96.52 + 0,102*GDPpc (3.95) Municipalities: Transfer2006 = 32.67 + 0.575*PITpc 3,74 3,95 Transfer2007 = 43.78 + 0.423*PITpc (1.65) We have not been able to find any statistically significant correlation between per capita transfer and population at either 5% or 10% of significance. We have also tested how system will function at the end of phase-in period. We have for that purpose calculated per capita amounts in 2011, and correlated them with GDpc, PITpc and population. Here are the results:

52

Cantons: Transfer2011 = 267.3 8+ 0.053*GDPpc (-1.23) Municipalities: Transfer2001 = 82.98 0.107*PITpc (3.82) Again, coefficients for population were not significant at 10%, but what can be concluded for municipalities is that system in the final year achieves horizontal equalization. Transfer per capita have negative correlation with the revenues capacity indicator-PIT, which shows that, at the end of transition period, formula will provide municipalities will bigger revenue raising capacity will receive smaller per capita amount of transfer. This trend is visible throughout six year period for municipalities, but formula for cantons even after six years period still does not equalize based on revenues capacity.

53

CONCLUSION
New system for allocation of public revenues in FBiH has marked a milestone in the intergovernmental relations in FBiH. After ten years of stalemate, without any major reform processes of fiscal system, newly introduced formula based mechanisms has finally changed the relations between the municipalities, cantons and FBiH level. The reform was more than necessary having in mind that post-Dayton relations between the tiers of government in FBiH have not been adapted to the changing socio-economic situations in the country. The disparities between the cantons, but also on the intra-cantonal level, without any active policy for equalization pursued by the FBiH government or cantons, have threatened to compromise social equity of the FBiH citizens and economic convergence of FBiH. But, this was a deliberate policy or system error of the Dayton: On the one side, FBiH Government did not have sufficient fiscal power nor was there a political will to equalize between obviously growing disparities, but on the other cantons were by Dayton design put in a position of fiscally strongest. This was not by chance: in the fiscal sphere, the primary task for cantons was to retain ethnic control over the financial resources. Until recent introduction of VAT, State of BiH has been completely deprived of any role in fiscal sector.

54

New system for allocation of public revenues incorporates both expenditure needs and fiscal capacity indicators. For the first time, derivation based system will be replaced with unbiased and simple formula, which will enable municipalities and cantons for more stable budgeting, and hopefully better local governance. The formula uses simple and verifiable data for calculation of transfers and it allows for easy modifications, which almost certainly will take place in the following years. Formula captures the expenditure needs differences across the municipalities and cantons, as well as fiscal capacity differences in the last year of transition period, transfers per capita vary negatively with PIT per capita indicator on municipal level. This is the indicator that formula is performing well in correcting horizontal imbalances.

55

Though the formula represents somewhat an enigma for cantonal and municipal authorities, at the end of six years phase-in period, but gradually even before, poorer local governments in FBiH will have at their disposal significantly bigger revenues than comparing to the present system. This is partially helped by the increased compliance and tax collection, inherent to VAT. In that sense, it will be necessary to accompany present reforms of fiscal sector with parallel projects of capacity building on the local level. The first and foremost task will be to improve financial management in municipalities and cantons, train local officials project preparation and management, improve their accountability by opening channel for communication with citizens and for citizens active role in local government affairs, and to introduce program and performance budgeting and multi-year budgeting. The increased flow of revenues for local governments might provide incentive for realigning of the intergovernmental relations in FBIH, by assigning additional responsibilities to

municipalities. If this happens, and this is purely political issue, it will be necessary to direct reform so that municipalities are not assigned only mandated functions, but that there should be genuine devolution of power to the local level. Of special importance will be regulation of how municipalities and cantons access capital markets. The conditions are already created which enable some municipalities to borrow even now, and this will become even more realistic as the situation with local finances improves. This requires that new law is adopted in the course of the fiscal reform, allowing local governments access to capital markets, but at the same time issuing upper tiers of government from bailing-out municipalities and cantons.

56

If the role of local governments becomes more important, there will be a need for central data collection, monitoring and analysis of local governance performance. New ministry, either on entity level, or if political reality permits on the state level, will need to be established to coordinate efforts in this area and to harmonize different policy solution in entities. It is not, of course, possible to predict future political developments in BiH, but we believe that in the same way it was uncompressible that there would be some model of fiscal equalization introduced in FBiH, in the same way we hope that at some point in the near future there will be a fiscal equalization scheme for whole BiH. Only in this way growing disparities between two BiH entities will be possible to eliminate, and through that process additionally strengthen integrative forces in the society. We hope that politicians, decisionmakers but common people as well have learnt a lesson in the case of FBiH, and that we will not have to wait for a long time for this to realize. This study will then need to be expanded to include results for FBiH after the system has been in function for some time, but also to analyze possible new BiH-wide fiscal equalization scheme.

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Appendix A: Shared tax between cantons and municipalities before VAT introduction

58

Appendix B: Cantons Distribution of transfer for 2006.

Cantons Una-Sana Posavina Tuzla Zenica Gorazde Central Bosnia Neretva-Herzegovina Wesz Herzegovina Sarajevo Livno % of FBiH Distribution Pool 9.499 1.84 17.095 12.538 1.714 8.017 8.90 3.426 34.768 2.203 Per capita amount of new transfer, in KM 331.55 447.83 346.97 315.013 500.92 315.613 392.55 413.44 855.15 269.62

Distribution of transfer for 2007.

Cantons Una-Sana Posavina Tuzla Zenica Gorazde Central Bosnia Herzegovina-Neretva West Herzegovina Sarajevo Livno

% of FBiH Distribution Pool 9.799 1.743 17.247 12.972 1.830 8.37 8.821 3.385 33.275 2.578

Per capita amount of new transfer, in KM 342.03 424.23 350.10 325.92 534.82 329.52 389.00 408.50 818,43 315.51

Distribution of transfers for 2011: New formula applied 100%.

Cantons Una-Sana Posavina Tuzla % of FBiH Distribution Pool 10.733 1.404 17.782 Per capita amount of new transfer, in KM 374.62 341.68 360.91

Independent variables used for regression.

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Zenica Gorazde Central Bosnia Neretva-Herzegovina West Herzegovina Sarajevo Livno

14.627 2.122 9.603 8.525 3.205 28.110 3.890

367.50 620.10 378.04 376.03 386.74 691.39 476.10

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Appendix C: Municipalities Distribution of transfers for 2006, 2007 and 2011

Canton Una-Sana Posavina Tuzla Zenica Gorazde Central Bosnia Neretva-Herzegovina West Herzegovina Sarajevo Livno

GDP per capita, in KM 2120.8 2862.4 2749 3019.9 2430 2851 4376 3011.2 5957.8 2411.6

Population 288,935 41,436 496,885 401,401 34,508 256,175 228,649 83,570 410,031 82,402

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Table continued
Municipality % of FBiH Distribution Pool for 2006
0.18 4.922 0.494 1.916 0.934 1.696 0.941 0.259 0.423 0.945 2.334 0.331 0.495 0.875 1.52 8.35 1.473 0.322 0.253 0.261 0.016 0.682 0.208 1.212 1.691 0.996 1.436 0.636 1.035 0.727 2.111 2.269 18.99 1.825 0.789 0.541 1.731 0.468 1.476 0.612 9.848 2.013 0.072 0.263 0.187 0.347 1.222 0.175 0.444 0.22 0.225 1.755 1.463 1.442 0.192 0.202 1.263 0.71 4.013 1.03 0.034 0.979 0.019 0.733 0.328 0.009 0.348 0.274 0.377 0.545 0.893

Per capita amount of transfer for 2006, in KM

51.87 133.37 32.92 56.85 54.90 112.32 65.55 53.27 39.65 94.79 62.43 45.91 40.89 49.51 54.51 123.80 51.98 112.36 24.82 95.99 19.55 69.60 25.73 96.17 178.06 64.38 100.02 72.85 105.75 118.78 124.02 72.74 76.39 65.19 37.28 58.51 55.39 55.40 59.49 136.53 123.65 61.61 56.15 29.30 69.91 48.85 46.61 58.40 31.10 102.95 28.94 89.30 50.79 85.92 44.76 29.48 52.15 30.74 51.86 54.84 30.35 51.16 28.57 32.30 33.80 22.43 40.60 36.55 31.96 36.92 70.87

% of FBiH Distribution Pool for 2007

0.197 4.432 0.627 2.013 1.015 1.533 0.976 0.303 0.509 0.897 2.481 0.387 0.572 1.018 1.613 7.634 1.596 0.301 0.383 0.243 0.035 0.674 0.295 1.109 1.465 1.012 1.344 0.628 0.997 0.66 1.917 2.24 18.357 1.842 0.956 0.576 1.823 0.504 1.536 0.547 8.834 2.093 0.106 0.342 0.181 0.396 1.344 0.223 0.566 0.229 0.312 1.718 1.59 1.425 0.211 0.273 1.313 0.938 4.304 1.105 0.051 1.043 0.028 0.921 0.412 0.015 0.419 0.338 0.494 0.66 0.869 62

Municipality
Kresevo Bihac Novi Travnik Bosanska Travnik Krupa Vitez Bosanski Petrovac Capljina Buzim Citluk Cazin Jablanica Kljuc Konjic Sanski Most Mostar Velika Kladusa Neum DomaljevacProzor Samac Ravno Odzak Stolac Orasje Grude Banovici Ljubuski Celic Posusje Doboj-Istok Siroki Brijeg Gracanica Sarajevo Centar Gradacac Hadzici Kalesija Ilidza Kladanj Ilijas Lukavac Novi Grad Sapna Sarajevo Novo Srebrenik Stari Grad Teocak Trnovo Tuzla Vogosca Zivinice Bosansko Breza Grahovo Doboj-Jug Drvar Kakanj Glamoc Maglaj Kupres Olovo Livno Tesanj Tomislavgrad Usora Vares Visoko Zavidovici Zenica Zepce Foca Gorazde Pale Bugojno Busovaca Dobretici Donji Vakuf Fojnica Gonji Vakuf Jajce Kiseljak

Per capita amount of transfer 2007, in KM

56.77 120.09 41.78 59.73 59.66 101.53 67.99 62.32 47.72 89.98 66.36 53.68 47.26 57.60 57.84 113.18 56.32 105.04 37.58 89.37 42.76 68.78 36.49 88.00 154.26 65.41 93.61 71.94 101.87 107.83 112.62 71.82 73.85 65.80 45.17 62.29 58.33 59.66 61.90 122.03 110.92 64.06 82.67 38.11 67.67 55.74 51.26 74.42 39.64 107.16 40.13 87.42 55.20 84.91 49.19 39.85 54.22 40.61 55.62 58.83 45.52 54.51 42.10 40.58 42.46 37.38 48.88 45.09 41.88 44.71 68.96

% of FBiH Distribution Pool for 20011

0.255 2.723 1.093 2.344 1.295 0.957 1.088 0.456 0.812 0.727 2.989 0.577 0.841 1.513 1.932 5.124 2.026 0.227 0.835 0.183 0.112 0.647 0.587 0.750 0.666 1.067 1.013 0.601 0.856 0.426 1.232 2.148 16.139 1.891 1.533 0.697 2.151 0.623 1.738 0.318 5.298 2.379 0.617 0.162 1.842 0.987 0.619 2.032 0.282 0.529 1.487 1.755 5.324 1.364 0.108 1.268 0.062 1.578 0.707 0.033 0.666 0.565 0.902 1.057 0.787

Per capita amount of transfer 20011, in KM

73.50 73.76 72.85 69.55 76.10 63.37 75.80 93.73 76.01 72.93 79.96 80.08 69.50 85.58 69.29 75.97 71.49 79.29 81.94 67.23 136.48 66.00 72.66 59.50 70.14 68.95 70.55 68.82 87.44 69.62 72.37 68.88 64.93 67.55 72.43 75.33 68.83 73.73 70.02 71.00 66.53 72.82 177.08 68.74 60.74 80.12 70.28 130.13 69.12 123.08 79.60 80.60 70.53 81.33 65.64 77.24 61.40 76.00 68.80 72.65 96.61 66.26 93.42 69.53 72.90 83.34 77.74 75.34 76.50 71.60 62.46

Independent variables used for regression:

Municipality
Bihac Bosanska Krupa Bosanski Petrovac Buzim Cazin Kljuc Sanski Most Velika Kladusa DomaljevacSamac Odzak Orasje Banovici Celic Doboj-Istok Gracanica Gradacac Kalesija Kladanj Lukavac Sapna Srebrenik Teocak Tuzla Zivinice Breza Doboj-Jug Kakanj Maglaj Olovo Tesanj Usora Vares Visoko Zavidovici Zenica Zepce

Population
60,876 28,065 8,020 17,596 61,673 19,966 45,998 46,741 4,485 16,163 20,788 25,519 14,400 10,096 51,450 46,179 34,911 15,252 51,551 13,934 40,929 7,394 131,374 53,896 14,804 4,412 43,245 23,550 12,823 47,514 7,076 11,301 39,948 38,102 127,646 30,980

PIT per capita

102.97 35.68 43.23 25.06 35.82 27.84 33.63 25.16 44.42 44.52 77.33 64.14 18.20 48.99 41.27 52.13 29.51 65.51 48.56 16.55 49.95 35.13 113.92 56.77 52.41 55.31 75.43 38.97 55.80 48.54 30.60 57.66 66.57 35.85 95.07 33.95

63

Foca Gorazde Pale Bugojno Busovaca Dobretici Donji Vakuf Fojnica Gonji Vakuf Jajce Kiseljak Kresevo Novi Travnik Travnik Vitez Capljina Citluk Jablanica Konjic Mostar Neum Prozor Ravno Stolac Grude Ljubuski Posusje Siroki Brijeg Sarajevo Centar Hadzici Ilidza Ilijas Novi Grad Novo Sarajevo Stari Grad Trnovo Vogosca Bosansko Grahovo Drvar Glamoc Kupres Livno Tomislavgrad

1,848 31,563 1,097 37,434 16,005 662 14,140 12,365 19,459 24,351 20,786 5,724 24,753 55,590 24,906 23,678 16,444 11,892 29,154 111,259 4,727 16,811 1,350 13,334 15,665 23,683 16,144 28,078 70,294 21,958 48,291 15,462 119,883 73,381 38,000 2,187 20,575 2,115 11,718 4,943 3,525 32,418 27,683

45.66 70.32 52.27 39.88 52.42 33.64 39.25 93.64 39.13 46.30 57.40 53.43 48.84 69.37 62.07 65.90 73.13 70.74 49.43 126.34 80.97 27.30 25.72 33.58 74.00 63.78 51.49 66.36 368.27 76.16 129.81 59.29 148.53 239.10 243.31 38.20 112.80 51.82 27.54 48.45 57.77 48.27 33.28

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