Chapter 3: Sustainable Municipal Finance for Development

Michael Lindfield
Michael Lindfield is a consultant for African Development Bank and advisor to the GIZ/ C40 Cities' Finance Facility.
Marco
Marco Kamiya is coordinator of the Urban Economy branch of the United Nations Human Settlements Programme (UN-Habitat).
Huascar Eguino
Huascar Eguino is a lead Specialist in Fiscal and Municipal Management at the Inter-American Development Bank (IDB) in Washington, D.C.

Policies and Cases of Subnational, Municipal and Metropolitan Finance for the New Urban Agenda

Local Governments need to achieve sustainable sources of finance to be able to invest in urban infrastructure and offer basic services. However, local governments face several challenges such as insufficient and unreliable transfers from central government, poor tax collection, weak fiscal management and other constraints that affect their institutional capacities. This chapter discusses the basis for sustainable municipal finance and draws experiences from Latin America, Asia and Africa.

The Imperative for Better Financing of Cities: The Engines of Sustainable Growth

Cities in the national economic agenda

Like globalization, urbanization is growing at a rapid rate. Today there are more than 4000 cities with a population of over 150,000, of which some 500 have over one million inhabitants (UN-DESA)1. This has induced municipal governments to assume greater responsibilities in the provision of infrastructure and services and has created the imperative for better and more reliable sources of financing and funding.

Cities generate over 80 percent of the global GDP. Many cities now have populations and economic product equivalent to that of some nations.2 Surprisingly, this occurs more in some developing regions such as in Asia and Latin America than in most OECD economies with higher levels of urbanization. This makes cities very important to the national agenda pursuit of sustainable economic development.

There is a wide range of experience among developing countries. For example, in Asia in 2012, urban areas contributed about 80 percent of the gross national product (GDP)3 and represented 46 percent of the total population. The rates of urbanization varied from the city states of Singapore and Hong Kong, that produce almost all their GDP in urban areas, to Myanmar and Laos where urban centres contributed about 50% of the total national GDP. A huge variety of experiences can also be found in Latin America and Africa.

Rapid urbanization has been the key driver of global growth—and of the poverty reduction that has resulted. Thus, as a strategic priority, national governments need to enable cities to mobilize financial resources to meet the challenges associated with the increasing urban population. They should do this by ensuring the fiscal sustainability of local governments, which is crucial for continued national development.

However, municipal governments often struggle to finance the delivery of infrastructure and services. Cities, even megacities, are still overly dependent on national and state/provincial government transfers. Although local taxes and other revenue sources (such as user fees) are major potential sources of finance for development, municipal governments often underuse them and/or are constrained from expanding their revenue bases. In developing coun-tries subnational taxes typically constitute only 2.3% of GDP, whereas in industrial countries they constitute 6.4%.4

Closing infrastructure deficits

The economic cost of inadequate infrastructure is not only high, but is beginning to threaten the competitiveness and productivity of cities and national economies. For example, India needs to invest US$1.2 trillion5 to wipe out the deficits in urban infrastructure, to meet the requirements of the urban population likely to be added over the next twenty years, and to enhance national economic growth. The current urban infrastructure deficit cost in India is about 4.3 per cent of its GDP per year, which has had significant repercussions on its economic growth.

Despite some progress in terms of fiscal decentralization, IMF data shows that local governments are less self-sufficient today than they were 15 years ago.6 They are heavily dependent on transfers from national governments and do not fully exploit their own revenue sources. At the same time, national governments do not transfer enough funds or provide access to finance to match service delivery obligations. It is true that wholesale transfer of funds to local levels has been cautioned by evident issues of accountability and transparency by municipal governments, which have not always been seen as fiscally responsible or effectively meeting the needs of their constituents.

Besides poor support from the national governments, local governments, particularly in develop-ing countries, have been limited in their access to capital markets, creating inter-generational inequities, where they have had to raise current taxes to pay for the development of urban infrastructure services which will benefit future residents.

Local governments are thus under pressure to do more with less. In many cases, municipal functions are becoming increasingly complex, encompassing issues of employment generation, social inclusion, and climate change. So, they need to be creative about finding innovative sources of revenues and rationalizing their expenditures. A great deal of effort should also be placed to reduce the dependency on central governments. Many local governments are learning to deliver services more effectively when they are given more responsibility and autonomy. A World Bank study covering 190 projects involving 3000 municipal development investments, for example, concluded that more local autonomy resulted in better access to services at the local level.7

Despite challenges, there are numerous opportunities for local governments to leverage their own resources and finance local infrastructure and services – with the support of the national government, the international community, and greater participation of the private sector. However, local governments, especially in developing countries, rarely use alternative sources of funding such as those available from the private sector in the form of loans from commercial banks or public private partnerships. Only 4% of 500 cities in low income countries have access to international markets.8 Many local governments are a long way from creditworthiness and need to go through the unglamorous steps of keeping their books in order before entering the world of borrowing.

  • 1. https://www.un.org/development/desa/en/
  • 2. ADB (2008). Managing Asian Cities. Sustainable and inclusive urban solutions. Manila.
  • 3. Dobbs, R., Smit, S., Remes, J., Manyika, J., Roxburgh, C., & Restrepo, A. (2011). Urban world: Mapping the economic power of cities. McKinsey Global Institute.
  • 4. Bahl, R., & Bird, R. (2008). Subnational taxes in developing countries: the way forward. Public Budgeting & Finance, 28(4), 1-25.
  • 5. McKinsey & Company (2011). Building India: Transforming the Nation’s Logistics Infrastructure. Delhi.
  • 6. Gadenne, L., & Singhal, M. (2014). Decentralization in developing economies. Annu. Rev. Econ., 6(1), 581-604.
  • 7. World Bank (2009). Improving Municipal Management for Cities to Succeed. http://siteresources.worldbank.org/EXT-MMNGT/Resources/Municipal_eval.p…
  • 8. World Bank (2013). Planning and Financing Low-Carbon, Livable Cities.

Urban Finance Issues in the Context of Global Urban Trends

Most central and subnational governments recognize the importance of cities to their national economies. They understand that cities need certain conditions to unlock their endogenous resources to achieve sustainable development. To utilize their endogenous resources, cities need effective financing mechanisms operating within a strong legal and institutional framework. However, most cities’ financing systems are outdated and do not follow best practices. Part of the problem lies in the disconnect between governance structures. In many cases, local governments are far too small to address the needs of the metropolitan economy – defined as the region of clear economic influence of the city. To address this specific issue, many local and regional ‘hybrid’ governance systems have been established, but few have been comprehensive enough to effectively manage the multi-dimensional issues involved in metropolitan management.

Some countries provide a clear definition on the responsibilities of subnational authorities for the delivery of urban infrastructure and services. They have clearly indicated mandates for local revenue generation to encourage efficiency in service provision, and in the management of resources for operations and capital investment. However, this is not sufficient. This process also needs to be effectively systematised. The sections below set out the key drivers in the development of an effective system of finance for both local and regional governments.

Improving Outdated Governance Systems

Governance systems not only provide the political and organizational context for the process of resource mobilization, but, more importantly, also determine the revenue to be mobilized. There are three key common shortfall areas in global urban governance systems:

a) Incoherence of Urban Institutions

Urban institutions very often do not cover the totality of the urban area. On top of this, planning and coordination among various institutions is usually poor with different sectors working in silos. This leads to redundancy and incoherency in urban planning and development. In effect, this means that local governments are often too small to have a long-term development vision and to have sufficient financial leverage to achieve it.

b) Poor implementation of urban planning

While not immediately obvious, planning is strongly linked to financing as real or potential revenue from taxes and fees comes from urban development. Thus, the scale and efficiency of a city’s revenue collection is largely controlled by the planning process. In many developing countries, however, the link between planning and development does not exist due to lack of enforcements. This leads to a poor financial performance and revenue collection at the local level.

c) Inadequate support for building institutional capacity

There is insufficient support for strengthening institutional capacities, which often undergo rapid evolution. Many countries have programs or initiatives to strengthen the performance, including the financial performance, of local governments. However, the programs often tend to be very focused on building individual skills – which is essential, but not sufficient. More structural approaches to build broad based capacity need to be implemented.

Bridging Shortfalls in Endogenous Resources

Although national transfers are important, critical to the sustainability of cities in the medium to long term is their ability to raise revenues from sources under their control. There are several issues related to this. The first is whether local governments are levying all the taxes and user charges to which they are entitled; whether they are collecting them; and whether they are levying them at the correct levels.

The second issue is the design of local tax systems as determined by national and/or state/ provincial governments. The key question here is: are there sufficient incentives in place to ensure that local governments collect all the taxes they are supposed to collect? An example of a taxation reform that looks for better performance based on local taxation, is found in the case of the Semi-Autonomous Tax Agencies (SAT) in Peru (see Box 1).

Box
1
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Local Taxation: The Role of Semi-Autonomous Tax Agencies in Peru

Semi-Autonomous Tax Agencies (SAT) can play an important role in strengthening the effective-ness, efficiency and legitimacy of decentralized tax systems, as shown in nine Peruvian cities. These agencies are autonomous in their budget decisions, internal organizational structure and human resources management. Their main source of finance is a commission on the taxes and non-tax revenues they collect.

Financing tax administration through a commission gives strong incentives to collect tax. In Peru, the SAT model incorporates basic New Public Management principles, such as the introduction of results-based management, private-sector management tools and the reform of existing incentive structures.

Some of the results of the Peruvian SATs include:

  • Municipalities with SAT increased local revenue generation more than municipalities with a conventional tax administration.
  • They have succeeded in lowering compliance costs, thus improving the allocative efficiency of the local tax system.
  • There was a growing public acknowledgement that the SAT model offers benefits to both citizens and local governments.

Some weaknesses of the SAT model include the lack of incentives for improving municipal cadastres and the modernization of the entire local tax systems.

Source:
Von Haldenwang, C. (2010). Taxation, Fiscal Decentralisation and Legitimacy: The Role of Semi‐Autonomous Tax Agencies in Peru. Development Policy Review, 28(6), 643-667.

The third issue is the need for a well-de-signed and well implemented resource mobilization system, particularly in the context of insufficient resources for urban development. This requires introducing further taxes or extending existing ones, with a specific objective of increasing the resources which are at the disposal of the local governments. For example, such measures may take the form of creating surcharges on national and state/provincial sales, income and corporate taxes, or the levying of surcharges on land for specific purposes. One example is the betterment levies in Colombia (see Box 2).

Box
2
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Betterment Levies in Medellin, Colombia

Medellin has successfully implemented betterment contributions in the past to recover the costs of specific improvement projects. Current law limits the revenue collected through this instrument to the actual costs incurred for a specific project, plus a percentage for administration.

Betterment contributions are a frequently used instrument in Colombia and other countries. The logic of betterment charges is that a public infrastructure investment or service improvement in a specific area benefits adjacent private landowners more than other more distant landowners.

Implementation involves identifying the benefited land, assessing the relative benefit to each parcel, and assigning the cost of the public investment to each parcel based on the proportion of benefit received. Both in Colombia and elsewhere, betterment contributions are generally limited in scope to the recovery of the actual cost of the infrastructure or service improvement rather than value sharing in a broader or more extensive sense.

It is estimated that more than 50 per cent of Medellin’s main road grid was paid for using betterment levies, clearly indicating that, historically, betterment levies have been extremely successful in their ability to provide funding for projects in Medellin.

Source:
Walters and Pinilla Pineda 2014, Borrero et al., 2011, GLTN Training manual, UN-Habitat (2017)
Cable cars in Medellin, Colombia

Building Better Local Financial and Asset Management Systems

Both from a theoretical viewpoint and from avail-able evidence, funding local projects from local sources is seen as being efficient. However, the devil, as they say, is in the implementation. Once revenue is mobilized, it is essential that the proceeds be used as efficiently as possible.

To improve implementation, subnational governments must first improve transparency, providing easily accessible public data on the provision of infrastructure and services. They should further link those expenditures to the collection of taxes/fees. It is essential that local governments report their financial situation in a transparent and accountable manner to their Ministries of Finance, their citizens and their financial partners.

Local governments should also budget their expenditures based on the implementation needs of the agreed plan. Prioritization of expenditures – whether capital or recurrent – should be done by choosing the most cost-effective way of delivering the planned and mandated services to the city. The city has the responsibility of ensuring it gets value for money during the procurement processes. Since procurement systems are critical components of city’s financial systems, they must be transparent, flexible and rigorous.

Developing Systems for Effective Use of Exogenous Sources of Finance

Improving municipal finance is an incremental process and the mechanisms used evolve over time as the circumstances at the city and national levels change. Critically, local governments should focus first on getting the basic conditions right, by maximizing the potential of their endogenous resources and strengthening and improving their financial capabilities. When the “house is in order” local governments can leverage their endogenous resources and tap wider sources of finance. In the case where the national legal framework allows municipalities to acquire long term sub-sovereign debt, cities should aim to attain the credit ratings needed to access capital markets in international markets. Where such conditions do not apply9, however, a sound financial base will enable them to access more conventional forms of finance such as municipal development funds, pooled financing mechanisms or bank loans.

National policy needs to squarely address the issue of city financing and the need for national systems to evolve. With respect to facilitating better city access to the capital markets, there are both supply-side and demand-side actions required. Supply-side actions which enable institutions such as pension funds to invest in municipal bonds are essential. Demand-side measures such as building the institutional capacity of cities are equally important. In this respect, developing a system of credit rating for local governments, and providing them with ‘credentials’ recognized by the capital markets can have tremendous impact on cities. Some national governments have recently encouraged cities to improve their credit rating as a pathway towards improved municipal finances and expanded resources.10 This has allowed some cities to aim for investment grade ratings that can allow them to access international markets.

Implementation Issues

During policy formulation, the diversity of numerous legal frameworks across and within countries needs to be clearly understood and taken into account. This is because significant differences exist between countries with respect to the local governments ability and restrictions to tap local and exogenous resources. The structure of the economy is also an important factor to consider. For example, if a large proportion of the economy of a city is in the informal sector, revenue raising instruments that depend on business taxes will have limited effectiveness until the level of informality is reduced. On the other hand, more reliance on land-based taxation is likely to be more effective.

Within countries, urban areas in different levels of urban hierarchy require different approaches to revenue mobilization. What is possible in a metropolitan area of 10 million people might not be possible in a town of 50,000 people. National systems of inter-governmental fiscal transfers also need to take such differences into account, and each country should have its own solutions based on its unique circumstances. There are, however, best-practice principles on establishing effective revenue mobilization mechanisms which can be applied across countries.

Implementing revenue mobilization mechanisms requires innovations in governance and financial and asset management that is in turn supported by reforms in the capital markets and by international development assistant agencies and the private sector. This requires taking immediate steps, for example:

  • Central and subnational governments need to work together on enhancing the potential sources of finance through mechanisms such as municipal development banks or municipal development corporations, according to the financing needs of cities.
  • The technical capacity for planning, accessing and administering the range of financing instruments is a major challenge for mid-size and smaller municipalities. Therefore, capacity building programs that provide the basis for effective financial management can make a big difference and produce rapid results.
  • Land based financing is an under-utilized major potential source of funding and needs appropriate institutional arrangements (legal framework, cadastre systems, etc.) to be effective.
  • For larger cities, there is a need to diversify sources of finance. Thus, the central government should encourage the cities to tap into capital markets and to involve the private sector through mechanisms such as credit from commercial banks and public private partnerships.
  • 9. Conditions among countries differ greatly and different approaches are required for strengthening the enabling framework for nancing local governments from the capital market. See, for example, Sood, P., Mays, M. M., & Lind eld, M. R. (2012). Subnational Finance for Infrastructure: Potential Roles and Opportunities for ADB.
  • 10. The World Bank is promoting the WB Creditworthiness Academy as part of these activities.

Metropolitan Finance Analytical Framework

Boundaries of urban infrastructure and markets for labour and goods typically extend beyond administrative boundaries, especially in rapidly growing urban areas. This metropolitan-administrative mismatch poses several challenges for effective financial planning and management. This is mainly because local capacity to manage complex financing is often constrained by the relatively small size of administrative entities in a metropolitan region. On top of this, it is extremely difficult to resolve this issue, since administrative boundaries are notoriously difficult to change.

This situation provides a strong rationale for project finance arrangements that cut across municipal boundaries. Since economies of scale often apply in the provision of infrastructure and services, metropolitan cooperation can reduce the costs of regional-level services such as waste disposal, power generation, or large investments in regionally significant projects such as sanitary landfills, water treatment plants or specialized hospitals.

Besides economies of scale and limited local capacity, there are other justifications for the establishment of institutions that are designated for coordinating numerous administrative units. For example, economic incentives and regulatory frameworks including tax policies, business regulations, and subsidies can have spatially distorting impacts if applied unevenly across an urban economy. Competition between municipal juris-dictions can undermine regional collaboration and exacerbate spatial inequality, reinforcing pockets of poverty and isolation and creating social instability in the longer term.

Consequently, given the diverse and jurisdictionally fragmented nature of metropolitan economies, a regional coordinating institution is an important component for an effective urban financial system. Such coordination can manifest in various types of coordinating entities. A more effective model may be the voluntary formation of metropolitan councils, secretariats or authorities. These higher-level arrangements would have to be complimented by metropolitan-wide service providers managed on a corporatized or concession basis. Precedents for both forms (voluntary councils and metropolitan boards) exist in most countries and can largely be undertaken under existing legislation.

To transition from ineffective current practices, national policy needs to encourage the formation of either metropolitan districts or voluntary, but legally binding, coalitions linking local governments in an urban agglomeration with a view of building financially viable entities that can sustainably plan for and finance the needed urban services. To support this national priority, key reforms/actions should be implemented to ensure the effective use of local and regional finances and assets at the metropolitan level. Some of these actions could include the approval of legal provisions to create metropolitan entities with some degree of financial autonomy or the establishment of specialized institutions to coordinate specific sectors.

Various financing arrangements

A primary rationale for decentralized finance and service provision is responsiveness to local demands and priorities. There is a trade-off between local-level responsiveness and the benefits of regional coordination when consider-ing which administrative level can best administer any financial management function.

With respect to the geographical scope, the area involved needs to include at least the built-up area of the urban core, but preferably the economic hinterland of the urban area as well. This is important 1) to prevent adjacent jurisdictions from ‘free riding’ on city services and infrastructure and 2) so that all households and enterpris-es benefiting from these can contribute to their development and maintenance through taxes on income or assets or through user charges.

Metropolitan financing will often involve differ-ent levels of government. Although it might seem to be efficient for lower administrative units to be responsible for all the provision of public goods and services; there are some conditions where higher administrative units are more efficient. This is because for some provisions, economies of scale might exist; making it more cost effective if they were delivered on a broader basis. Economies of scope might also be prevalent, making national bureaucracies more efficient providers than local bureaucracies, due to the central government’s ability to attract more qualified people.

Now, the question is, which services or sectors lend themselves more to decentralization, and which do not? According to Prud’homme, three characteristics are relevant when answering this question. These are the ‘externability’ of the services, their ‘chargeability,’ and their ‘technicity.’

The externability of a service refers to the external effects and geographical spillovers associated with the service. Some infrastructure services, such as highways or power production, matter very much outside the area in which the infra-structure is located or the service provided. In such cases, where the externability of the service is large, it should be provided at a higher administrative scale.

Chargeability of a service refers to the ease with which the services can be financed by local revenue sources. The greater the ability to charge for a service, the easier it is to decentralize it.

The technicity of a service, on the other hand, refers to the degree of technical and manage-rial expertise required to provide the services. Garbage collection is much easier to provide than bulk clean water. The lower the technicity of a service, the easier it is to decentralize because economies of scale and scope associated with its provision will be less important, and therefore the potential production efficiency losses will be minimal.

Given the above, the table below shows a general metropolitan finance arrangement among different layers of governments.

Figure
1
:
Investment and Responsibilities According to Layers of Government
figure 1

Systems for financial and asset management

National enabling frameworks are needed to provide incentives for the effective use of mobilized resources through taxation, transfers of land and other assets. National resources are also needed to provide capacity building and technical support for local governments.

Key proposals for action are:

Transfer instruments should be structured to provide an incentive for an adequate provision of services and infrastructure. Transfers and own-source revenue should also be leveraged for further enhancing revenue mobilization potential and for the efficient use of assets (see Box 3). In many countries, inter-governmental transfers make up the bulk of local government revenue. The structure of such transfers normally contains a large component based on population size. Adjustments are often made for the wealth of the area, with poorer areas getting more on a per capita basis. These structures, however, provide no incentive for reducing gaps of access to services, innovation and enhancing the performance of own source revenue generation. These transfers should be structured to encourage more efficient, equitable and innovative local governments. If instead they were partly restructured as results-based funds, they could have greater potential to encourage improved performance.

In addition to this, capacity building of local governments in revenue mobilization and asset management should be a national priority investment, at least as important as a physical investment, and should be programmed and resourced accordingly.

National frameworks should also include a system of asset management. For example, an assessment should be made as to whether a service can be provided more effectively through outsourcing. If this is the case, assets could be sold and the proceeds used either for augmenting that service or in other areas needing additional capex.11 Retained assets should be assessed in terms of whether they could be utilized more effectively. New assets should only be built after rigorous assessment. In many countries, asset management is still in its infancy, although the recognition of its importance is slowly spreading. Asset management initiatives are being applied, albeit on an ad-hoc basis, to a variety of uses.

  • 11. Not opex – this will result in a net reduction in local government asset stock replaced only with higher cost funding.

Box
3
:
Leveraging Existing Assets to Develop New Assets

Cities can leverage the value of their assets— mainly land—to finance public infrastructure. An advantage of land-based financing over other sources is that it usually generates more cash up front.

Auction mechanisms are often used to sell land in developing countries which lack systematic land valuations. Some countries use land parcel auctions as a standard element in land management. Land auction data is not widely available—but three recent large transactions illustrate the revenue potential of land auctions:

  • In Cairo, in 2007, the auction of 3,100 hectares of desert land for a new town generated $3.12 billion—an amount 117 times greater than the country’s total urban property tax collections, and about a tenth the size of national government revenue. The proceeds were to be used to reimburse costs of internal infrastructure and build a connecting highway to Cairo’s ring road.
  • In Mumbai, in 2006–07, the auction of 13 hectares of land in the new financial centre— Bandra-Kurla Complex—generated $1.2 billion. That was more than 10 times the total 2005 fiscal spending of the Mumbai Metropolitan Regional Development Authority, and 6 times the total value of municipal bonds issued by all urban local bodies and local utilities in India in more than a decade. The proceeds were used primarily in financing projects identified by the Metropolitan Transportation Plan.
  • In Istanbul, in 2007, the auction of an old bus station and government building generated $1.5 billion—more than the city’s total 2005 fiscal expenditures and infrastructure investments.
Source:
Lall, S. V. (2013). Planning, Connecting, and Financing Cities—Now: Priorities for City Leaders. World Bank Publications.

Mobilization and the use of exogenous resources

Restrictions on local government borrowing, while necessary, involve onerous transaction costs to establish borrowing eligibility. The key proposed actions applying to the two major streams of exogenous finance are shown below.

Support access and development of loan financing instruments

Local governments should be encouraged to borrow for capital expenditure up to a prudent debt ceiling set as a proportion of their stable cash flow base so they can properly manage their debts.12 Lending, particularly to small or unproven local governments, can be facilitated by a number of instruments – ‘intercepts’ of national block transfers, ‘pledging’ of a proportion of stable cash flows (such as property tax), and the ‘pooling’ of local governments to provide joint and several liabilities for repayment.

There is also a need to change the paradigm from characterizing local government as an unreliable borrower, to one which has a clear objective of developing sound local and regional government financial systems. Realistic debt ceilings need to be established and government agencies tasked with determining such ceilings and monitoring compliance need to be adequately resourced to do so.

Most local governments have no access to the capital markets. Concerted efforts are needed to eliminate market distortions and reduce transactions costs if local governments, even large local governments, are to successfully access these markets. In most cases, the transaction costs for the issuance of bonds are very high and, if such financing is to be an important part of funding, additional incentives, such as providing tax-free status for some types of municipal bonds, as is done in the USA, may be needed.

Cities in China, India, Indonesia, Malaysia, Thailand, Chile, Mexico, Colombia and Perú, among others, have successfully accessed capital markets (both debt and equity). The use of the funding has mostly been confined to public trans-port, water supply/waste water, and expressway projects. These projects have used funds from local and international capital markets for long-term funding derived from institutions such as pension funds and life insurance companies. In the Philippines, for example, a more proactive approach to attracting institutional funds has enabled the government to leverage larger scale finance. But, in no country, including countries such as Australia which was a pioneer in the field, have such processes matured to a state where they could be considered routine and efficient.

Instruments of capital market finance

Local governments, particularly larger ones, should be encouraged to go to the capital markets to fund capital expenditures. Bonds constitute the most common form of capital market instrument used by local governments. The use of appropriate bond funding provides additional depth and flexibility to local and regional government finance.

  • 12. Borrowing or raising bonds to pay opex is a sign of risky financial management for local governments – opex should be covered preferably by user charges and, if not, by internal revenue generation.

The Role of Development Partners

Given the above analysis, how should the inter-national community structure its support?

In general, the focus of support needs to be on establishing the enabling frameworks for resource mobilization and for capital market development, and on strengthening of local capacity in accessing the capital markets, through:

  • Provision of funds for pre-investment and ‘pilot projects’
  • Leverage public and private resources for city-level investments
  • Building institutional capacity in all the above-mentioned areas at the national, state/ provincial and local government levels.

At the national policy level, work on national urban finance strategies; particularly inter-governmental fiscal transfers and the ability and incentives for local governments to access the capital markets constitute priority areas of focus. Additionally, assistance in developing national policy frameworks, local government revenue sharing legislation, fiscal responsibility rules for subnational borrowing, and land legislation and titling are essential. Also important are national government financing mechanisms which support cities in funding their priority infrastructure and capacity development needs.

International assistance can contribute in design-ing better structured and coherent institutions and funding capacity building activities in coalition with donors or with the private sector. It is import-ant that the international community recognizes that finance is required not just for the investment itself but for project preparation, project implementation, technical assistance, and/or capacity development for the financial management and the structuring of capital investment funding.

The Asian Development Bank (2012), the Inter-American Development Bank (2014) and the World Bank (Lall, 2013) have recently revised their urban policies to emphasize the importance of sustainability and economic development. The governments of the United Kingdom (DfID), Switzerland (SECO) and the United States (USAID) have recently joined Germany (BMZ/GIZ) in focusing on, and funding support to, sustainable urbanization. All these countries have a strong policy orientation towards support for private initiatives and local economic development. Japan is also supporting its Environmentally Sustainable Cities Program through its Ministry of the Environment and the Future Cities Program, mainly through its Ministry of Foreign Affairs.

Despite the increased focus of urbanization in the development agenda, most of these initiatives do not explicitly target urban finance. Three programs which do so are:

  • World Bank: Municipal Finance Training Program.13
  • UNCDF: United Nations Capital Development Fund. Works in Least Developed Countries promoting inclusive finance for citizens and local development finance.14
  • UN-HABITAT: Urban Economy and Finance Branch/ Municipal Finance; focuses on endogenous sources of finance, such as property taxes, land value capture, public assets, and other sources of finance, and coordinates with local governments.

Conclusion

In conclusion, it must be emphasized that to strengthen global urban financing processes, there is a pressing need for the following:

  1. Clear acknowledgement of the economic importance of cities at the national level and the commitment to appropriately finance urban development to achieve sustainable development of the urban economy.
  2. Coordinated action, which considers financial functions at both the metropolitan and local levels, is essential to build effective institutions for service delivery. Supporting the institution’s capacity for planning and finance, and for ensuring its integration can have insurmountable benefits. National governments should also provide incentives for the best use of own-source revenues and transfers and for leveraging private sector assets.
  3. Support from the International Community to build a global city network fostering best practices in the above-mentioned areas to maximize the contributions of urban economies to sustain-able national and global growth.

In terms of action, the key areas proposed are:

  • Improved governance structures, matching revenue mobilization and service provision mandates;
  • Governance  that  captures  the  advantages of  metropolitan-scale finance  and  cooperative economic planning while preserving local responsiveness;
  • Improvement of own source revenues at the local level;
  • Better systems for fiscal and asset management;
  • More effective use of transfers and better leveraging of funding resources from the local capital markets; and
  • More effective systems of infrastructure finance.