Does Fiscal Decentralization Result in a Better Business Climate?

Abstract

Previous literature generally finds greater fiscal decentralization associated with faster economic growth. A separate, but related, literature finds greater fiscal decentralization associated with improved government performance, and stronger constraints on the Leviathan behavior of governments. Because economic growth critically depends on the presence of good government policies and institutions, the likely but untested link between these two strands of literature is that greater decentralization probably improves growth because it results in government policies more conducive to entrepreneurship and business success. We test (and confirm) this hypothesis using a variety of business climate measures for the U.S. states.

Keywords: fiscal federalism, business climate, economic growth