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Transfers from FFAF









Transfers from indemnification fund


Transfers from regional development fund


Transfers from regional budget development fund


Mutual off-set funds










Budget loans less repayment:










Other kinds of financial aid


Total: funds received by other levels of government











The share of federal financial aid in federal budget expenditure










The share of transfers from FFAF and IF in federal financial aid to the regions (exclusive of loans)











* data for Jan. – Sept. 2000

** plan

Source: Russian Federation Ministry of Finance, the calculations done by the authors.

Another task of the following section is to verify the hypothesis following from the model shaped for regional authorities’ fiscal behavior. The model shows that within different parameters of financial aid allocation mechanism applied the modifications in financial aid values cause the different changes in regional tax revenues and expenditures. Thus, within symmetrical financial aid allocation mechanism (inclusive of the one focused on 'normative' revenues and expenditures) financial aid value modification resulted from income effect must lead to budget expenditure growth by the value less than transfer value along with simultaneous tax reduction. Within the methodology asymmetrical to revenues or expenditure in regard to their 'normative' and actual values the influence of transfer amount modification exerted upon regional revenues and expenditure values is not clear a priori for, besides income effect, financial aid modification causes substitution effect as well.

If the allocation formula is orientated on actual expenditure value rather than on actual taxes revenue (i.e. it is orientated on fiscal capacity rather than 'normative' expenditure needs value, α>β), financial aid increase always results in expenditure growth (the substitution effect is positive). But if parameter α sufficiently exceeds α, substitution effect, which may be positive in this case, can also cause taxes revenue increase.

When financial aid allocation formula is orientated on actual tax revenues rather than on actual expenditures value (α<β), financial aid growth leads to tax revenue reduction and expenditures increase. But if parameter β sufficiently exceeds α it is possible that expenditures be reduced by substitution effect.

In other words, if α>β along with γ growth, expenditures always grow as well as taxes usually decrease. When α<β along with γ growth taxes always decrease as well as expenditures usually grow. If γ falls, taxes always grow and expenditures usually decrease.

In order to verify the hypothesis about similar federal attitude assumed towards different regional groups we can single out a group characterized by a high level of independence from federal support and will do the calculation within its assumed fromula for financial aid allocation.

In the previous chapters it was assumed that fiscal incentives prove to be transfer amount impact on tax revenue. From the point of view of optimization problem for a choice made between taxes and expenditures within given transfer allocation formula, fiscal incentives act as to perform optimal tax revenue and expenditures modification in order to increase regional welfare. Within the framework of the research conducted no empirical calculations of Russian region utility function will be done but a definition of fiscal incentives will be provided in the same manner it is done by Juravskaya25. Fiscal incentives prove to appear when the federal authorities shaping the formula of financial aid allocation create conditions, which cause the modification in optimum choice between regional budget revenues and expenditures. If it can be assumed that the Federal Center be aimed at the increase in the regional public goods consumption, then the formula of financial aid allocation should favor expenditure growth caused by transfer increase without any tax reduction. The latter can be interpreted as negative fiscal incentives26.

In order to increase regional welfare it is essential that the Federal Center strive both for a better public goods provision and increase in regional private goods consumption, which results from tax burden relief. The transition to a higher social welfare curve might serve as a criterion. In general, first it is necessary that optimal choice between private and public goods consumption be defined (it mustn’t be an individual but a federal decision) and then the conditions, which provide that regional revenues and expenditures match this optimal ratio, be considered as positive fiscal incentives.

In order to verify the hypotheses about gaining this or that fiscal incentives to modification in regional budget expenditure and revenues values determined by financial aid we’ll analyze interdependence between financial aid amount and revenues and expenditure values27, which could be regarded on the basis of the parameters calculated within financial aid allocation formula. Besides, the less γ value is, the worse the dependence should be (it can be assumed that the less γ is, the more all the coefficients approach zero, which leads to decrease in value within the same dispersion).

Analyzing the model for regional authorities’ fiscal behavior we can arrive at the conclusion that on less weight assigned to actual expenditures in comparison with 'normative' expenditure needs (α value decrease) actual expenditures prove to decrease. But if the degree of covering the revenues and expenditure gap is rather high (γ parameter), expenditures tend to grow. Alongside with that α value increase always results in tax growth. The modifications in financial aid allocation formula in order to focus the latter on fiscal capacity rather than actual taxes revenue (β value decrease) leads to regional tax revenues growth and actual expenditures increase.

Unfortunately, the lack of a long-term IGFR history in Russia doesn’t give a chance to verify the results of the model analysis concerning the impact of parameters changes in α and β on revenues and expenditure value chosen by the region. Therefore, we’ll compare only signs of changes of α and β with the signs of changes in revenues and expenditures within adjacent years.

Thus, the analysis of optimal regional tax revenues and expenditures makes it possible to undertake an empirical verification of the hypotheses formulated above on the basis of data gathered for Russia in 1995-1999.

The empirical verification will be based upon different financial aid allocation principles including four major factors, which according to our assumption could be determinant for financial support allocation between Russian Federation subjects.

1. Actual budget revenues of a Federation subject (per capita) From the assumptions made on the basis of the substantiated theoretical model it can be concluded that each region should have enough resources to finance minimum public goods production per capita. Therefore if it is assumed that the regions put forth equal tax efforts, i.e. regardless potential taxes revenue, low taxes revenue level (less than 100%) could be compensated for by financial aid provided by the federal government.

2. Fiscal capacity of Federation subject budget (potential tax revenue per capita) Tax revenues are determined by two groups of factors. The first consists in objective parameters characterizing tax base as well as tax rate and independent from regional government's decisions. The second performs the parameters within the regional administration competence (regional and local tax rate, the intensity of tax arrears recovering (), scope of tax benefits granted, etc.) Thus, it can be assumed that financial aid allocation done by federal authorities be determined not only by actual tax revenues for it sometimes fails to reflect real capacity of the region for budget revenues raising but by objective tax revenues as well (i.e. regional fiscal capacity). The latter comes to define the capacity of regional taxpayers for financing the necessary public goods provision level, which is calculated as the product of standard (average or maximum) tax rate and its base. The calculation of the Federation subject fiscal capacity performed by the IET28 was used in order to do necessary empirical calculations.

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