LOCAL GOVERNMENT REFORM PRESENTED BY DR MACHFUD SIDIK MSC

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1 LOCAL GOVERNMENT REFORM PRESENTED BY DR MACHFUD SIDIK MSC The 2017 NIPA International Seminar Jakarta, 22 August 2017 Click to add title

2 The Changing Role of Local Government Trends towards Strengthening Functional dimension: de-centralization, transfer of state tasks = upgrading of LGs functional profile; more decision-making competencies of local government ; Political dimension: toward mature democratization, citizen involvement; Territorial dimension: up-scaling of LG-boundaries, territorial consolidation (amalgamation/cooperation), more viable LG-structures Administrative dimension: citizen and costumeroriented administrative structures/procedures; performance improvements, competition benchmarking 2 Page 2

3 VISION Local Government will be the main vehicle of governance and public service at local level leading economic. Social and community development. Delivering efficient and good value services, and representing citizens and local communities effectively and accountable Page 3

4 Reform Measures New Functions: economic development, community and local development, enterprise support; Secure Finance: stable, sustainable funding new local taxing power; Greater Operational Efficiency: shared services, performance standards, customer focus; Effective Governance: leadership, accountability, oversight, ethics, citizen participation, etc; Reorganization of Structures: provincial, district, and city. Page 4

5 THREE MAIN AIMS OF REFORM OF LOCAL GOVERNMENT Ensuring an efficient public sector capable of providing optimum services without imposing distorted Local Taxes; Reinforcing local democracy, the ultimate aim being the provision of social services by the authorities closest to the citizens; Establishing clear responsibilities for each of the relevant bodies and preventing overlapping. Each individual administrative level was thus assigned responsibilities specially designed for it. Page 5

6 Scope Of Local Self-government The basic powers and responsibilities of local authorities shall be prescribed by the Law or by statute. However, this provision shall not prevent the attribution to local authorities of powers and responsibilities for specific purposes in accordance with the law. Local authorities shall, within the limits of the law, have full discretion to exercise their initiative with regard to any matter which is not excluded from their competence nor assigned to any other authority. Public responsibilities shall generally be exercised, in preference, by those authorities which are closest to the citizen. Allocation of responsibility to another authority should weigh up the extent and nature of the task and requirements of efficiency and economy. Powers given to local authorities shall normally be full and exclusive. They may not be undermined or limited by another, central or regional, authority except as provided for by the law. Where powers are delegated to them by a central or regional authority, local authorities shall, insofar as possible, be allowed discretion in adapting their exercise to local conditions. Local authorities shall be consulted, insofar as possible, in due time and in an appropriate way in the planning and decision- making processes for all matters which concern them directly. Page 6

7 Five Key Institution Dimensions of An Effective Local Government System Participation and accountability; Functional assignment; Local Political system; Local administrative control; Local fiscal discreation and PFM. Page 7

8 Conditions for Successful Changes A comprehensive, clear, realistic, alternative process A long-term change strategy, using group processes to develop new structures A major structural reform, focused on measurable outputs, that decentralizes operational responsibility Reasonable clarity about the nature and objectives of the new structure and process Effective development of human resources Effective recruitment, selection, placement, training, and development Values and preferences among recruits and members that support task and mission motivation Page 8

9 Potential roles of the local government in the development process are the following: Helping to inculcate in people positive citizenship attitudes; such as consideration, self-control, community responsibility and identity; Providing basic community services which both improve the quality of peoples lives and enable the community to generate and attract economic activities, and Helping people, especially in the rural areas, to organize themselves for the mobilization and effective management of community resources and central government programmes respectively. Page 9

10 Guideline for the Reform of Local Government in Many Countries Government at the local level exercised through representative council established by law to exercise specific powers within defined areas. These powers should give the councils substantial control over local affairs as well as the staff and institutional and financial powers to initiate and direct the provision of services and to determine and implement projects so as to complement the activities of the Provincial and Central Government in their areas, and ensure, through active participation of the people and their traditional institutions that local initiatives and response to local needs are maximized. Page 10

11 Several Priority Areas For Local Government Governance: Financial accountability, transparency, citizen satisfaction, equity and local legislation. Strengthening transparency and accountability mechanisms for local government units that equal the power that is devolved to them. More devolution and autonomy from the national government through a policy review on Law of Regional Government (Law No 23/2014); Administration: Development planning, revenue generation, revenue allocation and utilization, human resource management and development and customer service. Social Services: Health and nutrition, education, housing and basic infrastructure, security and disaster preparedness. Economic Development: Agriculture, and fisheries development and business, enterprises and small industrial promotion. Environmental Management: Natural resources and management and waste management and pollution control. Page 11

12 Successful Government Innovation Successful government innovation requires distribution of labour and cooperation between central and local governments. Local governments can act as originators and experimenters in reform and innovation, but central government must play an active role in sustaining and promoting outstanding innovative practices. Linked to systemic importance and learning is the question of sustainability of local government innovations and the extent to which they can be maintained or to which they persist over time. Page 12

13 Relevant In Varying Degrees To Developing Local Communities Democratic-participatory theory, local government functions to bring about democracy and to afford opportunities for political participation to the citizens as well as educate and socialize them politically. According to this theory, local government is superior to other levels of government since it is only at the level of the district/city that the individual can really participate in his own government, and so government is truly democratic. The efficiency services theory, local government on the ground that it is an efficient agent for providing services that are local in character; The developmental theory, local government should have a function of helping to reduce the congestion at the centre. This it can do at the local level by being involved in implementing socio-economic programmes that attempt to restructure the infrastructure necessary for an improved way of life; The localist theory, local government is local, consequently, it is accessible and responsive to local needs because Local-Government live close to the decision they have to make, to the people whose lives they affect, and to the area whose environment they shaped. Page 13

14 Reform Measures New Functions: economic development, community/local development, enterprise support; Secure Finance: stable, sustainable funding new local taxing power and citizens should tolerate an appropriate level of local taxes to pay for public services; Greater Operational Efficiency: shared services, performance customer focus; standards, Effective Governance: leadership, accountability, oversight, ethics, citizen participation, etc; Reorganisation of Structures: Provincial, District, City, Kecamatan and Village; Page 14

15 STRUCTURAL REFORMS A comprehensive strategy toward economic growth Annual law on competition Access to finance Privatisation Education system Infrastructure Growth Tax wedge Fight against corruption Institutional reform Justice system Simplification Jobs Act LG Reform Page 15 5

16 Modernising Local Government With Emphasis On: Best Value Partnerships e-government Accessible services Page 16

17 The Future of Reform : Investing on Public Administration In training, to improve knowledge and awareness of the main interpreters of the Reform In IT, to exploit the enormous opportunities of digital revolution In financial incentives, to promote quality of services and professional growth Page 17

18 The Future of Reform : Changing the culture Acquiring and disseminating new approaches: to technological and organizational innovation to simplification (releasing unnecessary administrative burdens) to quality of service and performance to citizen-user satisfaction to rewarding professionalism and merit to promoting, encouraging and energizing citizens and businesses Page 18

19 Three Broad Lines Of Concerned Of Intergovernmental Financial Relations 1. Sub National Taxation; 2. Spending Decentralization And Intergovernmental Grants; 3. Macroeconomic Management, Fiscal Rules And Fiscal Consolidation. Page 19

20 Intergovernmental Transfers: Common Objectives Intergovernmental Transfers: Common Objectives Improve general revenue adequacy (due to limited/inelastic local tax bases); Alleviate vertical fiscal gaps: matching revenues to expenditure requirements; Promote horizontal equalization among jurisdictions (presumed impact on equity and development); Reduce interjurisdictional spillovers; promote spending on priority services. Page 20

21 Fiscal Decentralization: Four Pillars Decentralized political and administrative systems Source : J. Martinez, Vazquez, 2017 Page 21

22 Why revenue assignments and not just grants or transfers? Accountability and fiscal responsibility of subnational governments require meaningful revenue autonomy. Which taxes should be allocated at the subnational levels? How much revenue autonomy is needed? Page 22

23 Devolution Strengthening Local Governments Strengthening stability of local Governments Strengthening financial autonomy of local Governments : srengthenging local government fiscal capacity through reformulation iof Central Government Transfer and Taxing Power of Local Government ; Strengthening sovereignty of Local Governments, better division of responsibilities among level of Governments. Decentralization of responsibilities and authority is a crucial step towards genuine local democracy and an efficient and user friendly public administration ( stipulated in Law No 23 of 2014); Strengthening efficiency of Local Administrations, reform of control mechanisms, city managers, local public managers chosen also from private sector, salaries linked to performance Page 23

24 The Main Areas of Reform Devolution, outsourcing and administrative federalism Simplifying regulatory and administrative burdens Reorganization of Central Government The new Public Budgeting Civil Service Reform A performance-oriented public sector management A more transparent and comprehensible Government e-government Page 24 24

25 The need for Reform An obsolete administration : no significant government-wide reforms; An inefficient administration: islands of excellence in a sea of general inefficiency A costly administration: crucial need to balance the budget and reduce public debt. Page 25

26 What form of tax autonomy is most desirable? With respect to the selection of taxes, there are good reasons to limit choice a closed list approach is preferable Exclusivity versus cohabitation of bases? Cohabitation offers more choices and meaningful sources of revenue at the subnational level even if it has the disadvantage of introducing vertical tax externalities How much autonomy to legislate over the structure of the tax bases and tax rate levels? Autonomy only to set tax rates is preferable for simplicity compliance costs, and sufficiently transparent to induce political accountability Responsibility for administration /enforcement: Subnational administration of own taxes can enhance accountability but can be less cost effective because of scale economies. So the assignment of administration responsibilities is context specific. Source : J. Martinez, Vazquez, 2017 Page 26

27 A long list of desirable properties for subnational taxes Besides revenue potential, other desirable properties for all taxes: (i) buoyancy/elasticity; (ii) fair burden distribution; (iii) be relatively efficient/ low distortions; (iv) low administration and compliance costs; and (v) be politically acceptable. Several other somewhat overlapping-- desirable properties make them more adaptable to the benefit principle : (i) geographic neutrality-- not distorting location, not interfering with commerce, and not exportable; (ii) evenly distributed, relatively immobile, and stable bases; (iii) high visibility and transparency; and (vi) be administratively feasible at the subnational level. Page 27

28 Table 1 : The Trend of Provincial Tax Revenue (IDR) Description No. Provincial Taxes Total Provincial Tax Revenue % Total Provincial Tax % Total Provincial Tax % Revenue Revenue 1 Duty For Transferring Ownership of Motor Vehicle ,33% ,44% ,42% 2 Duty For Transferring Ownership of Vehicle on the Water ,00% ,00% - 0,00% 3 Surface Water Tax ,45% ,39% ,23% 4 Fuel Tax ,74% ,90% ,15% 5 Motor Vehicle Tax ,46% ,85% ,48% 6 Vehicle on Water Tax ,00% ,00% 7 Cigarette Tax - 0,00% ,42% ,72% 8 Other Taxes ,00% 8 Tax Deliquency TOTAL ,00% ,00% - - 0,00% 0,00% ,00% ,00% ,00% Source : Compiled from various sources including DG of Financial Balance Ministry of Finance, Page 28

29 Table 2 : The Trend of District/City Revenue (IDR) Description *) No. Type of Tax Total % Total % Total % 1 Acquisition Duty of Land and Building ,21% ,98% ,00 23,94% 2 Land and Building Tax ,77% ,29% ,00 24,08% 3 Street Lighting Tax (Non ,77% ,51% ,00 22,79% PLN) 4 Hotel Tax ,50% ,39% ,00 9,70% 5 Restaurant Tax ,79% ,33% ,00 8,32% 6 Tax on Non-Metal Mineral ,33% ,58% ,00 4,31% and Rock 7 Advertising Tax ,29% ,50% ,00 2,71% 8 Entertaintment Tax ,50% ,13% ,00 1,76% 9 Parking Tax ,31% ,21% ,00 1,14% 10 Ground Water Tax ,22% ,03% ,00 1,17% 11 Tax on Swallows Nests ,12% ,05% ,00 0,06% 12 Environment Tax ,06% - 0,00% - 0,00% 13 Sharing Tax Revenue ,03% - 0,00% - 0,00% 14 Tax Receivable - 0,00% ,01% ,00 0,01% 15 Other Taxes ,10% ,00% ,00 0,02% TOTAL ,00% ,00% ,00% Source : Compiled from various sources including DG of Financial Balance Ministry of Finance, Page 29

30 Table 3 : Relative Significance of Regional Taxes and Levies in Regional Government Budget Realization 2015 (Billion Rupiah) No Description Province District/City Amount Amount (Percentage) (Percentage) I Regional Government Revenues (APBD ,732 Revenue:) (100) (100) 136,356 78,839 II Own Revenues (PAD) (51,64) (12,54) 120,326 37, Local Taxes (45,57) (5,95) 1,732 9, Local Levies (0,66) (1,54) 14,298 13, Others (5,41) (2,10) 73, ,516 III Balance Funds (27,76) (67,68) IV 54, ,377 Others (20,60) (19,78) Sources: Ministry of Finance, 2016 And Central Agency of Statistics, 2016 Total Regional Governments (Percentage) 892,789 (100) 215,195 (24,10) 157,746 (17,67) 11,395 (1,28) 27,525 (3,08) 498,810 (55,87) 178, (20,03) Page 30

31 Several Issues of Local Taxation System Assuring Strong Compliance Has Acquired Greater Priority; To Build Effective Local Tax Administrations; By Compliance Is Meant, Broadly, Meeting Legal Obligations Imposed By The Tax System. The Focus Is Thus On (Illegal) Evasion deliberate, Or From Ignorance And Error rather Than (Legal) Avoidance. Page 31

32 Common Subnational Revenue Reforms Promote a focus on revenue raising rather than other policy objectives; Ensure sufficient autonomy over local sources; Focus on improved use of a limited number of productive sources (eliminate the unproductive); Replace problematic/unofficial sources; Improve information on local tax bases and simplify local tax structure and administration; Improve local tax system has the potential to improve the performance of regional economy significantly; Improve administration/collection and use higher level administration where appropriate; Create better linkages between local public services and local revenues. Page 32

33 Principle Of A Good Tax Policy SIMPLICITY, Time spent complying with taxes is a burden on individuals, and administrative costs are a loss to society. Complicated taxation also undermines voluntary compliance by creating incentives to shelter and disguise income. TRANSPARENCY, Tax rates and bases should be easily understandable by taxpayers. Tax changes should be made with careful consideration and input, allowing taxpayers to understand how much and how they will pay their taxes. NEUTRALITY, The fewer economic decisions that are made for tax reasons, the better. Taxes are meant to raise revenue for necessary government services, not pick winners and losers in the economy. As much as is possible, the tax code should tax similar activities at the same rate, and not fall unequally even upon that particular sort of private revenue which is affected by it. Economists often refer to the best tax system as one with broad bases and low rates. STABILITY, Frequent changes to tax codes makes long term economic planning difficult and unpredictable. Temporary tax laws should be avoided. Page 33

34 Guidance For Successful Local Tax Reforms Push For Broader Bases & Lower Rates, Aside From Serving As A Good Overall Vision, Broad Tax Bases Are Best For Long-run revenue adequacy and minimizing the effects of economic volatility. Rate reductions, if sufficient, can be the tradeoff for losing special tax benefits. Start With Principles, The local tax reform effort should be guided by a set of uncontested principles, such as the desire for a fair, simple, pro-growth local tax system. The tax system should retain elements that ensure economic and local tax competitiveness. Strive For Revenue Neutrality, Inequitable, relatively inefficient, complicated, unstable, and insufficient local tax systems are so mainly because of flaws in their structures. Reform may be less controversial if it is made clear that the goal is revenue-neutral repair of the tax structure. Apply Principles To The Whole, Not The Parts, Individual local tax structures will satisfy one criterion but fall short on others. The reform package should be measured by the entire local tax package, not individual parts. Acknowledge The Downside and Educate Policymakers, Transparency dictates being open about the losers in local tax reform as well as the winners. Complexity of local tax issues is one reason that reform is difficult, and misunderstandings are widespread. Page 34

35 A Menu of Local Tax Reform Solutions Right-sizing the Local Tax Consumption tax base; Lowering local tax rates and consolidating rate schedules; Enhancing local tax neutrality; Improving local tax structure; Options to address local consumption tax base expansion; Elimination local tax exemption and tax expenditures; Concurrent Reform. Central Government tax reform presents an opportunity for Sub-National Governments to consider ways to improve their own tax structures. Page 35

36 Looking To The Future Looking To The Future Strive to maintain the most effective local tax system compliance, focus strategic priorities to improve quality of services aims to increase voluntary local tax compliance; Broadening local taxpayers access to secure digital services and innovating our service delivery model to provide better assistance to those seeking to comply; Building stronger relationships with local tax community and Local Government partners to promote voluntary compliance and improve enforcement efforts; Equipping promote voluntary compliance and improve enforcement efforts. Local Tax Authority highly-skilled workforce with professional development opportunities and the tools needed be successful; Positioning ourselves for the shift to a real-time local tax system, where the Local Tax Authority provide local tax-payers with greater certainty of accuracy at the time of filing. Page 36

37 Figure 1: Flowchart For Determining Whether A Charge Is A Tax Is The Charge Imposed By Government? YES NO What is the charge s primary purpose? NOT A TAX Behaviour Raising Revenue Recoup costs of providing a service to payer Not A Tax (Penalty) Is revenue used for general purposes or dedicated purposes? Not a Tax, Fee TAX GENERAL Dedicated Could be Tax, Levies, or Fee. To determine, look how closely related the payment of the charge benefit for the payment 3 7 Page 37

38 Concluding Remarks (1) 1) Reform measures, New Functions: economic development, community and local development, enterprise support; Secure Finance: stable, sustainable funding new local taxing power; Greater Operational Efficiency: shared services, performance standards, customer focus; Effective Governance: leadership, accountability, oversight, ethics, citizen participation, etc; Reorganisation of Structures: provincial, district, and city. 2) Three main of Local Government reform : Ensuring an efficient public sector capable of providing optimum services without increasing Local Taxation; Reinforcing local democracy, the ultimate aim being the provision of social services by the authorities closest to the citizens; Establishing clear responsibilities for each of the relevant bodies and preventing overlapping. 3) Conditions for Successful Changes, A comprehensive, clear, realistic, alternative process and Effective development of human resources; 4) Intergovernmental common objectives :InImprove general revenue adequacy (due to limited/inelastic local tax bases); Alleviate vertical fiscal gaps: matching revenues to expenditure requirements; Promote horizontal equalization among jurisdictions (presumed impact on equity and development); Reduce interjurisdictional spillovers; promote spending on priority services ;e 5) Why revenue assignments and not just grants or transfers? Accountability and fiscal responsibility of subnational governments require meaningful revenue autonomy. Which taxes should be allocated at the subnational levels? How much revenue autonomy is needed? W Page 38

39 Concluding Remarks (2) 6) A stable local tax system is vital to citizens, business and the Government will avoid unnecessary changes to local taxes legislation. In bringing forward reform, the Government should work with represent of the citizens and business to ensure that any changes improve the sustainability and long-term stability of the local tax system as part of comprehensive national tax system. 7) An efficient local tax system minimizes regional economic distortions by having a broad rather than narrow, tax base. A broad tax base is one with few exemptions or limitations. The result is that similar households and businesses are taxed in similar ways. A broad local tax base also allows for lower tax rates, which can enhance regional economic competitiveness. 8) Looking to the future of local taxing power, Strive to maintain the most effective local tax system compliance, focus strategic priorities to improve quality of services aims to increase voluntary local tax compliance; Broadening local taxpayers access to secure digital services and innovating our service delivery model to provide better assistance to those seeking to comply; Building stronger relationships with local tax community and Local Government partners to promote voluntary compliance and improve enforcement efforts; 9) Modernizing the administration of local taxation and levies mainly through the strengthening of Local Government Unit (Organisasi Pemerintah Daerah) of Taxes and Levies, business process improvement based on information technology, risk management, administrative simplification of taxation and levies, training for professional personnel, improved remuneration, as well as fundamental changes to the moral and culture of the local tax and levies authorities. Page 39

40 References : Bela, Poetri Pearl Analysis of Earmarking Tax on Motor Vehicle Tax (Tax earmarking Studies in Jakarta). Jakarta: University of Indonesia Bird, Richard M Subnational Taxation In Developing Countries: A Review Of The Literature. Journal of International Commerce, Economics and Policy Vol. 2, No. 1 (2011) 139A " A New Look at Benefits Taxation. In HC Recktenwald, ed., Tendences a Long Terme du Public Sector: Secular Trends of the Public Sector. Paris: Editions Cujas. Bird, Richard M. and Jun, Joosung Korean earmarking in Theory and Practice. Asian Excise Tax Conference, National University of Singapore. Boex, Jameston, and Jorge Martinez-Vasquez, Local Government Finance Reform in Developing Countries : The Case of Tanzania, palgrave, Hounmills, Basingstoke, Hampshire. Buchanan, James M The Economics of earmarked Taxes. Chicago: University of Chicago Press. Carling, Robert Tax earmarking, Is It Good Practice?. Perspective on Tax Reform (12), CIC Policy Monograph 75. Giugale, Marcelo M., Lafourcade, O., Nguyen, VH Mexico: A Comprehensive Development Agenda for the New Era. The World Bank. Washington. Washington. International Monetary Fund, 2011, Revenue Mobilization in Developing Countries, available athttp:// Jackson, Jeremy. Earmarking, Party Politics and Gubernatorial Veto: Theory and Evidence from US States. Washington, DC: St. Louis Washington University. Martinez-Vasquez J., McLure C.,Vaillancourt, F Revenues and expenditures in an intergovernmental framework. In Perspectives on Fiscal Federalism, Bird R.M., Vaillancourt F. (eds). World Bank Institute: Washington, DC. Page 40

41 Continued.. Jensen, Leif, Fiscal Design Surveys Across Levels of Government, Tax Policy Studies # 7. Paris: Organization for Economic Cooperation and Development (OECD), in Kiesling, Herbert Taxation and Public Goods: A Critique of Economic Welfare Tax Policy Analysis. University of Muchigan. USA. Martinez-Vasquez J., McLure C., Vaillancourt, F Revenues and expenditures in an intergovernmental framework. In Perspectives on Fiscal Federalism, Bird R.M., Vaillancourt F. (eds). World Bank Institute: Washington, DC. Ministry of Finance, Directorate General of Fiscal Balance, Fiscal Decentralization Indonesia Grand Design: Creating Allocation of National Resources Efficiently Through Central and Regional Financial Relations Transparent, Accountable, and Justice, the Directorate General of Fiscal Balance. McCleary, William The earmarking of Government Revenue: A Review of Some World Bank experience. the World Bank Research Observer, Vol. 6 No. 1, pp Michael, Joel The State Tax Revenues earmarking. St. Paul: Minnesota House of Representatives Research Department. Oates, W. (1999). Essay on Fiscal Federalism, Journal of Economic Literature, vol. 37, September Sidik, Machfud, A New Perspective of Intergovernmental Fiscal Relations: Lessons from Indonesia s Experiences. Ripelge, Jakarta, in SKAT (the Danish Tax Authorities), Tax in Denmark an introduction â "for new citizens. SKATING. Denmark. Swenson, Charles W., Gupta, S., Karayan, JE, Neff, J State and Local Taxation: Principles and Planning. J. Ross Publishing. USA. Thuronyi, Victor. (1998). (1998). Tax Law Design and Drafting Legal. Volume 1. Washington: International Monetary Fund... (1998). (1998). Tax Law Design and Drafting Legal. Volume 2. Washington DC: International Monetary Fund. Ter-Minasisan, Teresa Fiscal federalism. International Monetary Fund. Washington. Washington. Page 41

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