When Political Change Signals Community Resolve? Fiscal Decentralization, Grassroots Politics and Local Development

Abstract

This paper examines how the introduction of the Fiscal Decentralization (FD) at the turn of the Century that offered greater freedom in local governance affected grassroots politics and local development in Indonesia. We find that socio-culturally homogenous communities are more likely to experience a change in the way they select local leaders at the time of the introduction of FD and we identify multiple political transitions in this respect. We then compare local development outcomes of various politically treated communities (relative to those that did not experience any change) before and after FD to identify the causal effect of FD on local development: FD positively affected local development when it also induced community level political change (yielding new democracies and oligarchies). Moreover, this positive impact of change on local development was maximum when it gave rise to new grassroots democracy. We argue that change in grassroots politics at the critical juncture of the nation's history was key in fostering local development as it signalled community resolve for development and forced local political leadership to be more pro-people. But as costs of bringing about such changes is smaller with sociocultural homogeneity, such communities are more likely to engineer political change to reap the benefits of FD.

Keywords: Fiscal decentralization, Local politics, Political transition, Leader turnover; Local development

JEL Classification: C72, D72, D82