Soviet Union and Republics: Fiscal Decentralization and the Theory of Fiscal Federalism

Keller, W. (1992). Soviet Union and Republics: Fiscal Decentralization and the Theory of Fiscal Federalism. IIASA Working Paper. IIASA, Laxenburg, Austria: WP-92-005

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Abstract

This paper was prepared while the author was a participant of the "Young Scientist's Summer Program (YSSP)" at the International Institute for Applied Systems Analysis (IIASA) in Laxenburg during the summer of 1991. It was completed just before, on August 19, 1991, conservative forces led by G. Yanaev attempted to oust USSR President M. Gorbachev in a coup.

After the eventual failure of this coup, the political and economic developments in the Soviet Union became even more dynamic: a much faster fiscal disintegration is one of them. In fact, it seems questionable in what sense the Soviet Union is still a fiscal entity, thus justifiably allowing the use of concepts of a Theory of Fiscal Federalism, in which the following analysis is cast: an essential element of any federal system is that a power exists which can effectively limit decision-making power on lower hierarchical government levels. In the case of non-compliance with the rules laid down in the constitution, the former can coerce the latter into adhering to the rules. Certainly after the coup, and probably already before, the central government of the USSR is very much in doubt of representing a political power which could exert the necessary coercion to enforce its rules.

The sequence of reform proposals mirrors the steady loss of power of the federal government in the Soviet Union. From Gorbachev's rejection in the fall 1990 of the so-called "500 Day Plan" prepared by a group of economists around S. Shatalin, partly because it conceded to Union republics alone the authority to tax, the federal government being financed by fixed quotas on the republic's revenues over the agreement on a new draft Union Treaty in April 1991, which was already less biased towards the center, to the latest so-called "Yavlinsky Plan" of September 5, 1991 -- economic reform proposals made by the Union level systematically lag behind the realities in the Soviet Union. With regard to fiscal matters, the "Yavlinsky Plan" envisages essentially what was the center's main objection to the "500 Day Plan" -- giving the right to tax exclusively to Union republics. And, it is doubtful today whether even a federation that loose is possible. If, thus, fiscal-economically the Soviet Union does not exist any more, is it mistaken to interpret developments in the fiscal system there in the light of the Theory of Fiscal Federalism?

The exact characterization of the political system in the former Soviet Union is not the heart of this paper. Rather, this paper singles out some mechanisms which are at work in the devolving fiscal system in the Soviet Union. To assess their relevance now, in post-coup times, one should think of a continuum of possible solutions between a perfectly centralized fiscal system, as had been prevailing until 1987, to a perfectly decentralized fiscal system in which a Soviet fiscal entity has ceased to exist.

Take one example: as discussed below, the fact that, before the coup, Union republics transferred less than 40% of tax revenue in 1991 which was assigned to the central government can be viewed, in terms of the Theory of Fiscal Federalism, as "free-rider" behavior on the republics part. As it turns out, since the failed coup, republican transfers to the center were close to zero.

Assume it is no longer meaningful to refer to a central government because now its power is perfectly dismantled. Considering the (ex-)republics as independent economies, as long as there are spatial spillovers creating externalities among the (ex-)republics, the issue is now one of "International Policy Coordination", in which a leading issue is again free-rider behavior.

This shows that mechanisms which were fiscally relevant up to August 1991 do not necessarily lose their importance in post-coup times-on the contrary, they might gain importance. If the struggle for fiscal power between the center and the republics is now over in the sense that fiscal power of the center is only what the republics want it to be, problems which relied on that, like the incentive implications for state enterprises which are torn between both subnational and central ministries, will be diminished. By the same token, however, inter-(ex-)republican fiscal relations on the one hand, and intra-republican relations on the other, and their potential inefficiencies (e.g., unstable tax competition between (ex-)republics, or state enterprises now under the sole, but closer surveillance, of subnational fiscal authorities, respectively) gain importance.

Taken together, the analysis of the devolving Soviet fiscal system portrays many elements which are bound to play a major role also for the fiscal relations of politically independent (ex-)republics. Although some aspects will vanish with independent economies, others have emerged already in the transformation of the centralized to a federalistic Soviet fiscal system, which is what this paper is dealing with.

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