Regional Growth and Fiscal Decentralization a Case of Indonesia

Matondang Elsa Siburian


Decentralization in Indonesia has two distinguished characteristics in term of separation of functions and government funding. Indonesian decentralization law leaves central government with six functions: foreign affairs, defense, national security, judicial, fiscal and monetary, and religion, while local governments have to deliver other public goods to its local constituents. In terms of government funding, central government is obligated to transfer intragovernmental transfer fund to local government to support them to accomplish their functions in the form of balancing funds. This study offers new perspective on the relationship between decentralization and economic growth by exploring two different measures of regional gross domestic product (RGDP) use in Indonesia national account, such as RGDP to capture contributions of oil and gas revenue and RGDP without oil. The purpose is to level the playing field of all local government in provincial level without the influence of income from oil and gas sector. This paper employs two measurements of fiscal decentralization such as revenue decentralization and expenditure decentralization that captures both sides of local government budget. Other regional growth determinants such as demographic variables, infrastructures, government size, local economy structure, trading size in local economy, and level of investment also employed in this study. Using 33 provincial level data within the period 2000-2014 and GMM Arellano Bond estimation, this study finds out interesting result that fiscal decentralization works in opposite way toward regional growth when it measures with total output. On the revenue side, this create an incentive for poor region to remain poor and be eligible for intragovernmental transfer.

On the expenditure side, intragovernmental transfer may create moral hazard on poor local government in the form of inefficient public spending. Opposite result is obtained when the study level the playing field for all local government. Both revenue and expenditure seem able to encourage growth.  On the revenue side, intragovernmental transfer able to address the growth activity which confirmed by the positive and significant result of expenditure decentralization measure. Several policy implications are suggested based on the result such as: introducing reward and punishment mechanism for local government budget, relaxing tax and retribution base of local government, and introducing compulsory investment/saving for resource rich region to handle the aforementioned issues.


Regional Economic Growth; Decentralization; Revenue; Expenditure; Indonesia; Oil.

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