Ilona Pálné-Kovács
Th e new Hungarian Constitution and the 1990 Act on Local Government (ALG) formed the basic legislation of the decentralized subnational system. Th is initial legislation provided a broad, unifi ed, fl exible, and open framework for local competencies, responsibilities, and expenditure assignment. Th e legislation aimed at ensuring continuity and radical reform in local functions and services in conformity with the liberal paradigm of resource regulation and widespread local autonomy. Th e ALG defi nes mandatory and voluntary tasks, but local governments identify local needs and priorities and thus determine the level and quality of services. In this system the role of central grants is to supplement local funds rather than fi nance tasks. Th e annual Budget Act, the 1992 Act on Public Finance, and sectoral regulations have gradually supplemented the ALG and defi ned key conditions for its implementation.
Th is chapter reviews the present legislative framework of local service delivery and highlights key contradictions in the current regulation. I argue that because a clear division of competencies provides a solid basis for adequate fi nancing schemes and quality-assuring monitoring systems, the major caveats of further progress in fi scal decentralization depend on legal and constitutional regulations and not so much on local government fi nance itself.
I have identifi ed several issues that must be addressed to ensure that the legal framework provides for clear expenditure assignment, stability in fi nancing, and accountability in operation and investments.
* Th is chapter is based on Pálné-Kovács 1998.
Expenditure Assignment Regulations
Unlike the German and many other European legal systems, the regulation of the Hungarian system is unclear about the legal nature of centrally mandated tasks of local governments.
Mandatory and voluntary (locally undertaken) tasks are not clearly distinguished and thus do not ensure clarity in fi nancing.
Unclear Local Competencies
In principle the Constitution should set forth the services to which citizens have unique rights and specify the responsibility of the central and local governments in providing these services. Services due to all citizens (for example, elementary education, basic health care, and social services) could be considered to be unique rights and central government tasks. Provision of these tasks could still be delegated to local governments, but the central government has the full fi nancial responsibility. At the same time local governments must comply with formal and organizational regulations and training requirements. Central government tasks or a part of them could also be outsourced from local governments to the private or nonprofi t sector, as several international examples show. In quite a few countries, education and health care either are not local government tasks or are organized by special local governments (for example, Italy and Finland). Mandatory local tasks could refer to regional or local public goods provided by a dominant cluster of local governments (although not all). Th ese services can include secondary education and vocational training, in-patient and special medical treatment, child and youth protection, care for disabled and elderly citizens, basic community services, basic library services, maintenance of public collections, and certain social services (such as family assistance or aid for the homeless).
In these cases, the central government has only to supplement local resources and may regulate technical standards and quality in providing these goods. Voluntary local services could mean any kind of services; nevertheless, they should be fi nanced exclusively from own revenues or shared taxes.
Mandatory Tasks: General versus Sectoral Regulation
Th e ALG, the most comprehensive regulation of local government aff airs, initially did not specify clearly the mandatory local services. It mentions local government responsibilities in general in a quite inconsistent way and provides some examples headed by the term
“especially” (paragraph 1, section 8). Even in the case of the latter tasks, localities have the right to decide the extent and quality of services in light of local needs and resources (paragraph 2, section 8). Th erefore, these responsibilities cannot be considered to be obligatory in the sense of a public law. In addition, many of these tasks are not primarily local (for example, public safety, public transportation, and local energy supply), and the
current system provides no tools to fi nance them. Since 1994 local governments have had a list of mandatory services (for example, kindergarten, elementary school, basic social and health services, potable water, local roads, and public lighting; paragraph 4, section 8).
Th at the law provides neither sanctions for non-fulfi llment of the mandatory tasks nor a monitoring system for local responsibilities and service delivery is a legal phenomenon.
As a fi nancing consequence, central government transfers (block grants and normative grants) are provided regardless of the extent or quality of services. In other countries the central government has the right to exercise professional control if services are mandated to subnational levels or to the private sector and state transfers are partially or fully withheld in case of poor quality or insuffi cient provision.
To complicate the system further, sectoral laws since 1990 have defi ned additional local government tasks. Strangely, there is an unclear legal relationship between local government tasks defi ned in the ALG that require a two-thirds majority to be approved and other sectoral laws approved by only a simple majority by the Parliament.
In principle the ALG provides for the fi nancing of all obligatory tasks. Th is part of the law has been in the crossfi re of debates since its inception. Th e ALG states that the Parliament, in tandem with assigning a new mandatory task to the local level, must provide adequate funding and decide the extent and form of respective central transfers (paragraph 5, section 1).
Sectoral laws that defi ne additional tasks, however, usually do not deal with fi nancing issues and do not adequately increase local resources. Even if the Parliament intends to provide additional resources, the most debated issue is usually whether the tasks should be covered fully or only partially from the state budget. Th e counterargument often is that local governments will rely on their own revenues when fi nancing new tasks.
Although normative grants often change in tandem with the enactment of sectoral rules (or sometimes new earmarked grants are created), just as frequently funding of new tasks is integrated into an old normative, with no regard for how much the new provision may cost. General purpose grants are designated to fi nance tasks for which normative grants are not specifi ed in the transfer system, but quite often general grants are referred to when the localities require additional transfers for new mandatory tasks.
Voluntary Tasks
Th e ALG defi nes the scope of voluntary tasks more clearly by saying that local govern-ment can provide any kind of local function or service not designated by law to other organizations’ competency. Nevertheless, some tasks are voluntary only for certain types of local governments and obligatory for others. Tasks of regional scope (for example, secondary education) are designated to larger settlements and to counties as a mandatory task, but the ALG allows other settlements to provide them or even to take them over in accordance with local priorities. Th us the diff erentiation between mandatory and voluntary tasks is inconsistent in the legislation.
Th e central government’s involvement in fi nancing voluntary tasks is totally unregulated.
Evidently, own and shared incomes serve (among other things) as funding for voluntary tasks, as do some state transfers, which the ministries allocate in a rather uncoordinated way. According to the regulation, in case of a fi nancial crisis, local governments must maintain their obligatory tasks and cut their voluntary services fi rst. Th e regulation holds a dilemma: localities must apply the same rules in downsizing voluntary and obligatory tasks, so streamlining of obligatory tasks becomes rather diffi cult. In addition, voluntary tasks represent maneuvering opportunities, because local governments make decisions according to local demand. Abandoning voluntary tasks from the local services would mean the loss of an essential aspect of subnational autonomy.
Fragmented Service Delivery
Diff erentiating expenditure assignments by size of local governments is one of the biggest problems in the subnational legislation, despite the basis provided by the ALG. Th e ALG acknowledges (in paragraph 1, section 6) that diff erent tasks and competencies might occur in villages, towns, county governments, the capital city, and its districts. More obligatory tasks and competencies may be delegated to local governments of settlements that have a larger population and bigger capacity. Th ese provisions clearly give the legislature the opportunity to decide the scope and extent of services that should be provided by a certain rank of local government.
Th e same paragraph of the ALG also contains an auxiliary rule that overturns the logic of the main provision and hinders implementation. Th e local government of a small settlement can voluntarily provide services otherwise delegated by law to municipalities that have larger population or to county governments, assuming that the small settlement is able to supply the services in its area, either by itself or in association with other local governments. In such a case the small locality is automatically eligible to receive normative transfers to fi nance the tasks taken over from bigger municipalities.
Th is rule has blocked the development of an optimal expenditure assignment and fi nancing scheme for several reasons. First, unilateral local decisions can distort an existing and well-operating service by creating parallel capacities. As a result, the initial service provider can no longer use its own optimal capacity. Second, the central government might even reinforce irrational expenditure assignments by guaranteed funding of new tasks of smaller municipalities. Th is arrangement may bring bigger local governments originally mandated to perform certain tasks into a diffi cult fi nancial situation, because providers receive transfers according to the number of users rather than capacities. Th ird, the task taken over by the government of a small settlement is often provided only to its own citizens, and it cannot be obliged to supply a bigger area. As a result the local government initially responsible for servicing a bigger area cannot simply withdraw because that would leave citizens without service.
Sectoral Regulation and Economies of Scale
Th e ALG states (in paragraph 3, section 8) that laws can diff erentiate task assignments by the size, population, or other conditions of settlements. Such diff erentiation rarely happened in the past; distinction was not even made between tasks of villages (say 100 citizens) and towns (say 50,000 citizens). Nevertheless, some sectoral acts aim at stimulating the use of economies of scale, such as the 1993 Act on Social Administration and Assistance, the 1996 Act on Fire Protection, and the 1998 Act on Construction.
Analyzing the regulation, one can conclude that the legislature did not want to get involved directly in forming special service districts or identifying the optimal size of service units. Th e sectoral laws have not regulated a clear and stable diff erentiation of tasks by type or size of municipalities, although these laws at least state that services should be organized by region. Municipalities are usually eligible for central support when they organize the regional task locally or form a region with a very small neighbor (say, to supply 2,000 citizens).
A set of indirect tools at hand discourages fragmented service delivery, such as applying tight service standards or inspecting suppliers’ licenses and accreditation. When qualitative and quantitative conditions of service delivery have been well defi ned, small localities are individually unable to meet the standards. Since sectoral funds for investment grants are limited, they often serve only to demonstrate that central government support exists, but in practice, that support is not accessible for many municipalities even though they are eligible to apply for sectoral support. Th e interesting legal feature of this framework is that central government or ministerial decrees can substantially change the rules of service delivery without amendment of laws (that is, without Parliamentary approval).
Primary Education
Th e 1993 Act on Public Education does not diff erentiate by size of settlements, apart from tasks assigned exclusively to county governments. Th e act precisely defi nes institutional and professional requirements for local education and defi nes only a subsidiary role for the central government in elementary and secondary education. Institutions that have regional or national functions can be managed by the state, with approval of the minister of fi nance, only if the original operator proved incapable. On the positive side the act orders county governments to initiate service contracts between local governments in a given geographic area and encourages them to make a six-year development plan for public education and for the operation of their institutional network.
Th e act states that operational expenses are not fully covered by the central government, though the cost coverage should not be less than 80 percent. School budgets, therefore, contain contributions from the central and local governments, and maybe own revenues (for example, fees paid by the students for food or extracurricular activities). Th e diffi culty in fi nding the right techniques to fi nance education is demonstrated by the fact that the number of normatives has increased tremendously, and now a few hundred indicators are
used to specify the content of education services. Th is trend, though it symbolizes the responsibility of the central government, does not encourage localities to rationalize their institutions or service delivery.
Social Assistance
Th e 1993 Act on Social Administration and Assistance defi nes basic tasks for all localities and special task assignments by size clusters of settlements (2,000, 10,000, 20,000, and 30,000 or more inhabitants). In villages with fewer than 500 inhabitants, the village manager fulfi lls basic social tasks.
Th e weakness of the regulation is that bigger settlements with special tasks are not responsible to serve beyond their own area, so citizens of a settlement that does not have a special social institution can use the county’s social institutions. Citizens can also use social services in a neighboring municipality if the two localities have a contract or joint service delivery association.
Health Care
Th e 1997 Act on Health Care states that citizens are eligible for basic medical services and for in-patient service in their place of residence or vicinity. Th ey are eligible for out-patient services in a place accessible by regular public transportation. Th is defi nition does not have a real normative power. In practice, because only institutions contracted by the Health Insurance Fund are able to provide services, the fi nancing system—the annual bargaining in the framework of the capacity use agreement—essentially determines how close the service gets to the patient.
As for local governments the act presumes that basic health care services are organized on a territorial basis. As opposed to its thoroughness regarding medical standards, the act regulates the local governments’ role superfi cially, stating only that municipalities are responsible for out-patient and in-patient care. Th e appendix to the act defi nes the number of hospital beds in advance for fi ve years based on precise statistical indices; it also lists the institutions with national and regional functions, regardless of whether they are in central or local hands. Detailed conditions for these services and the normatives of regional fi nancing, however, are regulated in a separate law passed in 1996.
Th e essence of the health fi nance model is that local governments are responsible for infrastructure, and operation is ensured by funding from the Health Insurance Fund.
Within this framework, however, local governments and other managing agents can negotiate the capacities of their institutions. Although the owners or managers of health institutions can submit joint off ers for Health Insurance Fund fi nancing harmonized at the county level, inevitably bargaining takes place within the counties and service delivery may still remain fragmented.
Counties and Cities with County Rank
Th e subnational system has two particular features: (a) the subsidiary arrangement for county government tasks, and (b) the special status of cities with county rank. Th e latter not only worsened the conditions of optimal service provision at micro-regional and regional levels, but it also made the understanding of expenditure assignments more diffi cult. Th e allocation of tasks between city and county governments is chaotic, both in the legislation and practice. As a consequence of constant changes in assignments, asset refurbishment and investments are often neglected, and the service providers and users have no stable, long-term relationship.
County governments are mandated by law to provide public services on request for the whole or part of the county. In addition, they can be required to provide services in a settlement where most users of a service unit (for example, school dormitory) are not citizens of the municipality (managing spillover). Th is role of buff er or last resort could be more important, but subsequent regulations prevent municipalities and county governments from establishing a stable division of labor between them.
A municipality can obtain the right to take over and manage a service unit for at least three years if its citizens have been the primary users in the past four years. Th e act thus allows for the introduction of voluntary tasks, but a municipality can unilaterally take over service units. In addition, a municipality (alone or in association with others) has the right to establish a new service unit and take over a service provided by the county as mandatory. In such a case the ALG guarantees that the municipality receives central transfers in proportion with the task taken over. Th e central government, therefore, does not provide more money, but it reallocates the transfers between the county and the respective municipality. Th is regulation evidently puts county governments in an economically depressed position because they often must continue the service for the rest of the region, but operate with suboptimal use and smaller entry transfers when someone creates a new regional service unit.
Th e ALG does not specify (although it does not exclude) the possibility of joint county–municipal service delivery. Th e amendment of the ALG in 1994 intended to assign more, and some exclusive, tasks to the counties. Th e actual legal solution, however, is less than optimal. Th e act lists the mandatory services for counties, but it also states that municipalities may choose whether they want to provide such services. Th e ALG also states that municipalities can pass service units to the counties, and the counties are obliged to take them over.
Only a narrow range of tasks ultimately became mandates for counties, and a wider range of tasks remained the responsibility of municipalities. Tasks now belonging exclusively to counties are certain professional promotion and harmonization functions created by sectoral legislation in the recent years, including, for example, professional child and youth protection services, specialized social care services, museums, collections of historical documents, county library service, environmental protection supervision, tourism,
and the harmonization of employment policy. In sum, the 1994 amendment to the act brought about some positive changes, but it did not correct the major confusion in service delivery and disincentives in managing service units.
According to the ALG, cities with county rank are endowed with municipal and county tasks and competencies. Th e act thus states that county governments have no subsidiary role in relation to cities with county rank. Th ese cities are obliged to carry out county level tasks in their own territory, and cannot pass their service units or tasks to the county. Th is model implies that cities with county rank can or must run in parallel all kinds of county-type service units. Fortunately, this parallelism has not become a practice.
Instead of duplicating service units, apart from a few exceptional cases, an ad hoc division of labor emerged between the county and cities with county rank. How tasks are divided between the county and the cities usually depends on the situation inherited from 1990.
In general, cities have more choices than the county since the latter serves also the inhabitants of the city, whereas the city with county rank is not obliged to serve the rest of the county, though it often does.
Joint Service Delivery
Th e 1997 Act on Associations and Cooperation of Local Governments aims at improving the quality and effi ciency of service delivery, but it does not supply a remedy for fragmented service delivery. Th e act regulates several forms of associations, but it does not provide for advance fi nancing of joint service delivery associations. Advanced fi nancing requires the formation of a municipal association as a legal entity that operates as a budgetary organization. Th e act does not allow associations to collect taxes or own revenues, to receive direct budgetary support, or to be responsible for local services. Th e law is obscure regarding liabilities and property rights of associations. Th e details of fi nancing associations for multiple services or maintaining several institutions have not been regulated.
Th e act defi nes various forms of associations, but eligibility for central transfers is regulated case by case in the annual budget laws. Th e members of associations can decide on the volume of their contributions to the joint task, and their agreement is necessary for all issues concerning the association budget. Since the law’s enactment, analysts have realized that without positive incentives the mere clarifi cation and refi nement is not suffi cient to promote a more intensive establishment of municipal associations. Introduction of obligatory associations for service delivery must be addressed sooner or later.
Local government fi nances contain some incentives for joint service delivery.
Nevertheless, they change constantly and have not played a signifi cant role. Th e central government has been promoting joint notary services since 1990, although the volume and conditions of transfers, and sometimes their form, have changed. Since 1998, associations receive extra fi nancial support if the member local governments can prove they cut costs by providing services through the association. Eligibility for a defi cit grant is also conditioned