Decentralizing policies has been advised and encouraged as a way to bring governments and public goods delivery closer to the people. It is expected that voters would elect local politicians who have a better understanding of local needs, and once in office, would allocate the budget to better accommodate these needs. Faguet (2004), for example, found that after decentralization reforms, the Bolivian local governments allocated more funds to those public goods that the local population needed the most. Melo (2005) and Faguet and Sanchez (2009) found evidence that decentralization played a major role in increasing access to education in Colombia. Yet any evidence of the impact of decentralization on social progress has shown mixed results (Bardhan and Mookherjee 2006). As has been argued by Weingast (2009) and others, there are many factors that may jeopardize the efficient allocation of resources, prompted by a competitive political process. Among these are the asymmetries and lack of information in relation to the delivery of public goods at the local level, the presence of interest groups, weak political parties, as well as clientelism and corruption—all leading to the slowing down of social progress.
This chapter explores the effect of electoral competition—both local and national, at the local level—on the incentives to build fiscal capacity and provide public goods such as education and water. The research hypothesis is that political competition at both these levels gives a boost to municipal decentralization as measured through local fiscal capacity. Our findings support this hypothesis. For instance we find that fiscal capacity is the fundamental variable that explains the differences in sector-wise performance across local governments.
Our findings are consistent with the recent literature on decentralization, which stresses the importance of mobilizing local resources to foster social progress and economic development. As Weingast (2009, 280) has recently suggested, it is necessary to take into account the type of incen- tives—in the local political context—that transfers generate without the existence of fiscal effort, and to not only consider the “importance of transfers for mitigating horizontal and vertical imbalances.” In the absence of a local fiscal effort, local authorities may not necessarily act to maximize social welfare. Also, in such an instance, voters may not care to hold them accountable. Our paper argues that political competition has a significant impact on the provision of public services through fiscal effort. When municipalities are not controlled by a small, regional elite segment but, rather, the municipal electorate supports a larger number of candidates, local politicians cannot rely on national politicians to obtain resources from the national government. They thus have more incentives for making a greater effort in tax collection at the local level. To follow Gadenne (2011), we expect that, by paying more local taxes, people will have greater incentives to monitor the local politicians, and electoral accountability will improve as the population becomes aware of public policy performance.
When local governments involve themselves in policies and actions to raise their own taxes—in many cases encountering harsh political process— they become more accountable to their citizens. The voters would want to have better control over the allocation of the new funds; they would demand greater efficiency in spending and would pressure the authorities for a budget allocation closer to the population’s needs. In a pure, local fiscal framework, citizens internalize their marginal cost of taxes and consequently push for an allocation that better fits their needs, particularly in the sectors that yield the highest marginal benefit. Such sectors would be those that provide public goods that are relatively less accessible to the local population. Thus, in municipalities that make concerted efforts to raise their fiscal capacity, more rapid progress would be expected, especially when considering the indicators of social development, as the citizenry would demand better responsiveness and efficiency in spending.
In addition, we suggest that electoral competition has a mediated impact through fiscal capacity on the distribution of expenditures, leading to positive outcomes of local resource allocation in education, water, and sewerage services. As political competition increases, so does awareness about citizens’ needs and the competing parties’ commitment to campaign promises that appeal to a larger electorate. In the absence of such competition, we could expect political leaders to reward their loyalists through a more patronage approach involving exchange of goods and services (selective incentives) for their political support. This, in turn, could adversely impact fair and efficient allocation of valued resources. A political process is efficient when it facilitates the correspondence, in relative terms, of need-based resource allocation. It is also expected that with a relatively higher correspondence between real needs and budget allocation, expenditure efficiency must rise.
We analyze this relationship in two sectors: education, and water and sewerage—two areas of policy in Colombia where the municipality has substantial jurisdiction. Access to education has increased enormously in the past two decades (Rodriguez 2010; Faguet and Sanchez 2008), and the differences in the growth of enrollment rates across municipalities are quite significant. Moreover, the quality of education seems to remain stagnant, as shown by the different international tests such as the PISA (Program for International Student Assessment) and TIMSS (Trends in International Mathematics and Science Study).
The water and sewerage sector has undergone major institutional changes, with an important part of their delivery being handled by private or semi-private firms (Silva 2007; Granados 2008). Currently, more than 35 percent of municipalities have effected changes in their water provision services and have put these in the hands of private companies or specialized providers. Nevertheless, there is a great deal of discussion regarding the impact of such changes on the growth of coverage, and on the quality of water and sewerage services.
To carry out our research, we used a rich data set containing detailed information on sector-wise performance of all the municipalities in Colombia from 1994 to 2012; information on land tax was gathered from the National Planning Department and cadastral information from the Geographical Institute Agustm Codazzi, as well as electoral results for the councils, mayors, and House of Representatives across the country from 1994 to 2009 from the Colombian Electoral Office (Registraduna Nacional del Estado Civil). To complement the quantitative analysis, we also conducted several interviews of politicians from municipalities where we could observe the variations in the outcomes as well as in the independent variables, mainly with regard to fiscal effort and electoral competition.
This paper is divided into six parts. The second section briefly summarizes the evolution of the decentralization process in Colombia, giving an account of three aspects of the process: the evolution of local finances, the quality and coverage of education, and the provision of water and sewerage services. The third part is the theoretical framework and a summary of the more general expectations. The fourth part describes the empirical methodology linking the political and local state capacity (measured as fiscal effort), and then local state capacity to service delivery outcomes. The fifth section shows the results, and the sixth is the concluding section. 
mal scheme of transfers.” The next steps included the 1968 Constitutional Amendment that created the “Situado Fiscal”—Law 33 of 1968—that initiated the sharing system and the sales tax cession, and Laws 46 of 1971 and 14 of 1983 that aimed to reinforce the municipal and departmental taxes. Colombia, nonetheless, remained very centralized politically, as designed by the 1886 Constitution. All governors in Colombia were presidential appointees, and, in turn, were in charge of naming all the mayors in the municipalities. None of them had fixed terms. As a result, local political careers of most candidates depended on their ties to the regional and national leaders.
The most significant departure from the 1886 Constitution was the 1986 Constitutional Amendment, which, for the first time in the twentieth century in Colombia, stated that mayors should be popularly elected for two- year terms, with no possibility of immediate re-election.1 Consistent with the 1986 Constitutional Reform, the 1991 Constitution ushered in a new stage of decentralization, establishing the rules that would allow the citizens greater say in public policy as well as to oversee the functioning of their politically elected leaders. Thus, governors also became popularly elected.
Political decentralization was complemented with fiscal decentralization. Both types of decentralization augmented—according to Falleti (2010)— the autonomy of local and regional politicians from the central government, which brought about a significant change in the inter-governmental balance of power for governors and mayors. For that purpose, the 1991 Constitution introduced a new scheme of transfers which developed into Law 60 of 1993—with a very precise set of formulae—in which the central government’s current revenues (mainly national taxes) were to be shared with the departments and with municipalities. Transfers were distributed on the basis of unmet basic needs to all municipalities; then, municipalities had to distribute their own expenditure across sectors, each one with a fixed percentage. Under these rules, there were few incentives for municipalities and departments to increase their revenue-generation capacity. The established institutional framework also defined the distribution of natural resource royalties among departments and municipalities (Articles 360 and 361).
In an effort to better align incentives of politicians to improve their policy performance, the Law 715 determined that the distribution of the transfers would be based on the coverage and growth of the health and education services provided by the territorial entities, and not by population and poverty rates—criteria that had been established by Law 60 of
1993.3 Also, if one considers that the length of terms of mayors and governors was, at the time, three years (from 1994 till 2003) with no possibility of re-election, political incentives were also not aligned to pay the costs for raising taxes, without enough time to deliver better public services.
Thus, the 1991 Constitution initiated a process of decentralization focused on the local provision of goods and services and on transfers, but neglected the sub-national governments’ (SNGs) generation of their own resources. As could be expected, during the 1990s, departments and municipalities financed most of their expenditures through transfers from the central government instead of making an effort to build a local tax base. This resulted in significant vertical imbalances and, in most cases, in fiscal deficits4 that threatened fiscal sustainability and macroeconomic stability (Sanchez and Zenteno 2011).5
Municipal spending increased from 3.0 percent to 6.8 percent of GDP between 1994 and 2009, while its own revenues rose from 1.4 percent to 2.5 percent of the GDP during the same period. Thus, municipal vertical imbalances rose—a fact that may have distorted the incentives toward efficiency and responsiveness of local governments (Sanchez and Zenteno 2011; Sanchez et al. 2012). At the municipal level, almost 90 percent of the tax revenues are represented by the Property and Land Tax, Commerce and Industry Tax, and the gasoline surcharge. Between 1996 and 2000, per capita municipal taxes did not present significant changes. From 2001, they began to steadily increase, particularly reflecting the behavior of the property and industry and commerce taxes. The dynamism in tax collection can be attributed to the tax reforms, such as Law 488 of 1998 and Law 788 of 2003, which increased the base for some sub-national taxes such as the gasoline surcharge.
-  A Short Account of Colombia’sDecentralization Reforms The first steps of Colombian fiscal decentralization reforms occurred at theend of the 1950s. As reported by Junguito and Rincon (2004), the 1958Constitutional Amendment assigned at least 10 percent of the nationalbudget to education expenditure, thus marking the beginning of “a for-