With tax revenue dwindling amid ongoing deflation and snowballing debts left over from massive past fiscal expenditures, Japan is now facing the potential risk of fiscal bankruptcy. Against such a backdrop, the Research Institute of Economy, Trade and Industry launched a "fiscal reform project" in December 2002. Project members have since discussed and analyzed an ideal form of fiscal system and created specific policy proposals for achieving it. In the upcoming RIETI Policy Symposium "Fiscal Reform of Japan: Redesigning the Frame of the State" to be held on March 11 and 12 at the United Nations University in Tokyo, they will present the hitherto-obtained findings of these studies while inviting commentaries from various experts in lively debate. As they prepare for the event, we asked our fellows about the focus of the symposium and the uniqueness of this project. In this the second in a series of reports in the run-up to the event, we asked RIETI Consulting Fellow Tomitaro Kitami about his unique attempt to analyze local governments using the theoretical framework of corporate governance, instead of approaches usually seen in conventional studies on local governance and local finance.
RIETI Editorial Team: You have written a paper entitled "Redesigning the Fiscal Structure of Local Governments: From the Point of View of Local Governance Reform." What is unique about the points you raise in this paper?
Kitami: As the title of my paper indicates, I have used the theoretical framework of corporate governance in analyzing local governments, which has enabled me to focus on some new aspects that have not been taken up in conventional studies on local governance and local finance.
First of all, by applying a game-theoretic approach widely used in comparative institutional analysis on corporate governance, I was able to look at how the central government, the market (holders of local government bonds), and the general public - each of them as a stakeholder with inherent interests - relate to the relevant local government(s). This enabled me to comprehensively discuss a series of hitherto-unconsidered issues in the context of the fiscal discipline of local governments. Such issues include a mechanism under which the central government "implicitly guarantees" the repayment of local government bonds and the concept of the citizen as a customer that has been highlighted lately in new public management (NPM) theory. Another issue covered is the structural dynamics of relationships between the central government and local governments as determined by the balance of power among ministries and agencies within the central government as well as by their respective correlations with local governments.
Also, in this paper I have argued that a system of "relational contingent governance," an idea discussed in comparative institutional analysis, is effective in implementing governance in local governments. And in order to achieve that, I have pointed to the need to distinguish between normal situations in which fiscal conditions are not so problematic and emergency situations in which a fiscal crisis poses an imminent threat.
RIETI Editorial Team: There have been lots of debates over decentralization such as those on the so-called "trinity" reform (which would reallocate government subsidies and local allocation tax, while transferring tax sources from the central government to respective local governments) and a "doshusei" regional administrative system (which would divide Japan into several region-wide administrative units). How does your paper relate to these arguments?
Kitami: This call for a trinity reform and/or a doshusei system is just one of the conclusions that have been reached at this point of time in the course of long-lasting discussions on decentralization. But they belong to a totally different lineage from the earlier arguments on decentralization prompted by local fiscal crises that surfaced around the latter half of the 1990s. In my paper, I argue that what we need today are measures to cope with local fiscal crises. Rather than focusing on shortsighted maneuvers, such as trying to make both ends meet by increasing tax revenue and cutting expenditures, I have discussed how we can design an institutional and organizational mechanism that can enhance a local government's fiscal governance.
Of course, there are themes encompassing both these two issues - decentralization and fiscal crisis - and there is the possibility that decentralization measures might turn out to be an effective solution to the fiscal crisis. But just take a look at a proposed scheme to transfer financial sources from the central government to local governments in exchange for reducing central government subsidies, as advocated under the trinity reform. You can see that there is no guarantee that decentralization will be more desirable from the local taxpayer's point of view unless each local government's self-imposed expenditure control is proven to be more effective than the one imposed by the central government through the authorization of subsidies. When one looks at it in this way, I believe that the governance reform of local governments is a theme that must be discussed before or at least in tandem with decentralization. Unfortunately, we have yet to experience such momentum on the issue. But I do hope that my paper will help trigger further debate in this area.
RIETI Editorial Team: Finally, could you pinpoint some of the highlights of your paper?
Kitami: In this paper, I have proposed a set of concrete policy tools for central and local government officials engaged in the institutional designing and/or actual operation of local governments to provide leverage for pushing forward this gigantic framework called regional institution. These tools are: 1) a guideline for local administrative reform, 2) inventory schedules for local administrative reform, and 3) a draft proposal for law on adjustment of debts of a municipality. These are discussed in more detail in both the paper as well as an interim report compiled by a RIETI research workshop on public governance, which served as the basis for my paper. These proposals have been made in line with our policy to undertake research that can actually be put into practice. As they are intended to be a tool for practitioners, I hope that people at the forefront of policymaking will actually use and further improve these tools as they see fit.
Interview conducted by Toko Tanimoto, chief online editor, on March 3, 2004.
- Pre-event Report No.1
"Underlying the RIETI Fiscal Reform Project: A Unique and Coherent Viewpoint" by TSURU Kotaro, Senior Fellow, RIETI - Pre-event Report No.2
"Local Government Fiscal Reform from the Viewpoint of 'Corporate' Governance" by KITAMI Tomitaro, Consulting Fellow, RIETI - Pre-event Report No.3
"Fiscal Reform from the Perspective of Social System Design" by YOKOYAMA Yoshinori, Senior Fellow, RIETI
