Governing and Financing Cities in the Developing World

The economic activity that drives growth in developing countries is heavily concentrated in urban areas. Big cities generate the most dynamic economic development, the strongest links to the global economy, and the resources to help poorer countries become more competitive and prosperous. However, the same advantages that drive investment and growth in these areas also draw migrants who need jobs and housing, lead to demands for better infrastructure and social services, and result in increased congestion, environmental damage, and social problems.

Governments in developing countries face two key challenges: how to capture a share of the economic growth to finance the needed expenditures, and how to manage cities so that the urban economy functions efficiently, services are delivered cost-effectively to all, and citizens have a voice in governing the city.

This report identifies the critical issues and describes current practice, the gap between practice and theory, and potential reform paths. Two core issues are explored: how to manage complex vertical and horizontal urban governance structures, and how to raise the finances to promote efficient, equitable, and sustainable metropolitan growth. The report explores local revenue instruments, with a focus on property-based local taxes and user charges, as well as external revenue sources such as intergovernmental transfers, borrowing, public-private partnerships, and international assistance.

In the 50-plus metropolitan cities considered here, practice often deviates widely from theory and varies greatly across cities. Therefore, it is impossible to make sweeping recommendations for all countries and cities.

Three general conclusions may be drawn:

• • Metropolitan-wide plans for service delivery and financing should be an essential part of national fiscal planning, even if this approach results in some loss of home rule at the lowest levels of metropolitan government.

• • Metropolitan local governments need more discretion over their budgets, service delivery, and financing decisions.

• • Many developing countries need to adopt asymmetric systems of intergovernmental fiscal relations, in which the metropolitan areas are given differential powers and responsibilities relative to other subnational jurisdictions.

Some recommendations can guide national and local authorities, as well as external donors and advisors:

• • Take a long view. Change will take time, perseverance, and courage to make hard political choices.

• • Understand the history, institutions, and political economy of each country and city.

• • Develop a comprehensive perspective of the governance and fiscal conditions in each country and city.

• • Allow for the great differences in capacity between low- and middle-income developing countries and their cities, but do not underestimate the institutional capacity of metropolitan areas in low-income countries.

• • Encourage the central government to focus on metropolitan governance and finance.

• • Pay attention to effective governance (to function, finance, and functionaries) and to the triad of autonomy, accountability, and capacity, in the right sequence.

• • Put in place the right financial instruments.

• • Influence aid donors to pay attention to, and invest in, metropolitan areas.

This report was preceded by the book Financing Metropolitan Governments in Developing Countries, by Bahl, Linn, and Deborah L. Wetzel, former country director for Brazil at the World Bank.

About the Authors

Roy W. Bahl is Regents Professor of Economics, emeritus, and founding dean of the Andrew Young School of Policy Studies at Georgia State University. He is the author of numerous books and papers on taxation and financing local governments. He has worked extensively as an advisor to governments in the United States and in countries around the world.

Johannes F. Linn is a resident senior scholar at the Emerging Markets Forum in Washington, DC, and a nonresident senior fellow at the Brookings Institution. From 2005 to 2010, he was director of the Wolfensohn Center for Development at Brookings. Prior to joining Brookings in 2003, he worked for three decades at the World Bank in various capacities, including as the Bank’s vice president for financial policy and resource mobilization, and as vice president for Europe and Central Asia. Linn has published extensively on development and global governance issues.