Fiscal Federalism and Political Selection

In this paper we provide an explanation of why fiscal federalism needs a low degree of vertical fiscal imbalance (VFI) in order to produce efficiency gains with respect to centralization, focusing on the link between the "quality" of decentralization and the "quality" of local politicians. We first build a career-concern model of politics, extending the framework to different types of politicians with specialised skills. We show that politicians with "administrative" skills are more likely to be elected with respect to politicians with "political" skills where local governments are characterised by a low degree of VFI. We test this prediction by exploiting the reduction of VFI in Italian municipalities following the introduction of a Property Tax in the mid ’90s. Results strongly support our prediction, and are robust to a number of alternative stories.