Report No: 12596 SA FIANCING THE METROPOLfTAN AREAS OF SOLTH AFRICA Opertons Diion Southern Africa Department MICROGRAPHICS Report No: 12596 SA Type: SEC I - FINANCING THE METROPOLrTAN AREAS oF SOUTH AFRICA Table of Contents Exeuive Summary 1. lntroduco 2. La G ovanennt FIance 4 3. Sie of the Back-log 12 4. ioTa Ral,and sal 23 5. Eements of a Strate. the Trnion 31 6. The Elments of a Stratg the L=S Rum 44 7. Conclons and Cavet so Bibliograhy "53 Appendix TABLi Table 2.1 Share of Revenue, Eand Trnsfe by Tr of Government Table 2.2 Raeeue Smtcture of BIA in Ce Wits Table 2.3 Cent Ran Conbts t Net Income Table 2.4 Trading Acount Surpls and property Ta Table 2.5 Central Wits LAs: Property Rebates Table 3.1 One Year Instmt Proam Table 3.2 Five Year Investment Progam Table 3.3 Anual lncrease In Net Income Table 3.4 Real Increase In Per Capta Eeicity and Water Bils Table 3.5 Urban services as a Pcentagp of Total Public Investment Table 4.1 Deentralin Tends Table 4.2 Friscal I caon of Merging WLAs and BLs in Wits Table 5.1 Fiscal Idicato For tie Witwaterrn Table 5.2 Pectag Ire I Net Revenues required Table 5.3 FIscld Opions and Soures of Revenues Tabe 5.4 Ranig of OpCons Ijti111 II'W S l t]g,Mil Wu S~~~~~~~~~U CWll Adkiowledgment &i report draws on te _fngs of *a Urban Eaonomi ad Fised MPin to South Afiica T7h Missions led by Jlud Ahmad (AP6N) ad Inded Jms Kics CIWURD), Kyo S1k Lee (rWURD), Viay Swaoop (RDPE), HeMFu Zoo (PtDPE) and W. Fox, C. Mre, IL Weayeo and D. Wildasin. rport also drws on ie anaysis and ast esti_mes of *e Uba Sec Mson led by Je&sy Rw (AP6N) and inclde Main Betud (WUD) and SWee Mayo (rWUR) and C. Bans IL Robson, and J. St*h Iaba prvided valuable asstace In t ppatio of thi Th ieport would not bav ben palbhwho ut h and copestion exene by a vadety of voups nd Idiidua in South Afia These inclu officials In centr, 4nd local Snament. Vmp, ** x1visM ut and a :n Umit-bsd -M I NGOs, nsan an -acd bbmana m. report wa reviwed by Maw. Joblns Lion VRP) ad Mibael Cohen CWURLD). Thek comment and Oprvided iame iput in te desin and g of tbis iporL Fl 1ndn ItetrOK}t Aas o Su Abika Eective Sumnuwy 1 neu sector In South Africa ccouns r about sxty percent of the country's population and over eighty percent of its GDP. Nowhere is this concen- rtSiw of people and economic actvity more vise than in the four major meopoi- tan areas-the P etoria-Witwatersand-Vaal VPWV) complex, Cape Town, Durban and Port Elze-which repst almost forty-fiv pec of the nati's populaon and an cve higher sbare of its GDP. In fact, some esomates suggest that the PWV area alone will account for about 50 pe of the county's GDP by the year 2000. For Southf Af:ca, the reality of such demograph R and economic cncentratin is eea with wel fuctiog cides, the abilty to sustain an overalleconomic reoovery wi be jeopardized. Designing a comprehensv urbad sra is thore an iprtat nag" piaity for South Afiica .2 Such a task wM be made difficul, however, by the lega of apartheid. Segrega alog rcial lme, th urban sector reflec and suffers om the i es and inefficiences crated by South ica's racial bistory. The wbhite cis are ively managed and ty possess a govenane stuce sees well the minty. populat Thes cities bave a srog fisc base d contain te bulk of the employment as wel as mos of the ret and commercil acvities. The blak town- ships, generaRy siuatd at some distance from the cents of the cites, wr desgne as domioy Ws to provide labo f the wite co ties Witout a fiscal base and an effectie govenan struce, hese townshbips, in stark contra to the adjacet citis, bave a low level of infrastruCture and basic sevices. 3 South Africa is now undergoing historic cae. Ther is widespread ement on the need to ceate a non-rcal, democic system of govenment and to end the social and ecmomic legaq of aparieid. Wth the majority of the black populin lacng access t basic srvies, it is ect cities wil play a critical role in iementing redit and povet aeving policies. The ste being d d at the urban level toachieve he broader objectives is how to create unied1city astructues by merging dte cites and the adjacent twnshbips. While this prcess of amalgam remains undefined, the economic and demograhc conctato of the cities clearly reflect the sakes ivolved. The ability of South Africa to create non-racial governm, reduce poverty, and sstain econic growth wil hinge on the successful integraton of the raially divided cities -1BM> tos 1Uu, uaW, tW in t rpt ae ud tA Of them tums I e ir to tho estcing of locala ithe mm of cating on, =a-faia . A twing ma_ngmut for eapl, is ad m' as a of existing ra separtsmwitha jointaminWoistrai a ano in which a nw, unified muicipalt is ii Ppse aid Scope: Fisea Dime1sions of Ay Urban Solution 4 The unfication of x-stly dif t segmens of the urban sector wi reqre far raching chges in the polial, i re and econo-ic fabri of the citiesS. Th World Bans sec work i desin to understand the Intrcton betw ths changs ad the wori of the uban economy. This report fouses on fa dimnsinsof iniifvi the urban area gf othAfrica and addresses, In particular, the Issues of fiscal iba and reveue sbag aranements between eties and townshI Wh ile te analysishas co od n th W arand area, the lessons and implcations drawn are relvt for the four metropolitan oents of the country. Mtc fiscal dimes of the plrocess hv be defined to cum the fiilbwtg ffuee ritid amas (a) Enuing, in th short run the immedi abiit of the ces t oontriblute to the goas of povq aviati and redistution by financng the zccess to baic svices by th black community; 0b) In do medium to long run, crating au effien ad eqWible fial system that ensmres the economi ssalailt of fth cite and (c) Ensuinmg that the tranitonal aragementsof do not udriethe economc foudatonsof the clin tiso the macso-stabI1iy of the economy. he challeng is to design a fiswa strtegy tha wil achfieve thes obecve. The, jssu of fInancing cties in South Afria , herfoe, mor fndamentaldthan merely slecting the right set of fiscal, tools. Ther Is a chance-and a need-to crate long-standinig institutions and city strctre that can pomote the econmic and poliialsstiablt of the urban areas. ~~~A seSuW mn - bi ies SIRd Sevral important co Wi fin c the desi of a fia sagategy for the cities of South Aftica. Primrfy amngs e nare: a i the sie of the back-log in urban serces; 01) the curet fiscal qsystm of white (WLAs) and black (MA) local authorities; (mi) tlV loctioaldyamics of household and businesses within the urba sector; and (iv) the outcome of the national debate on fisca eetaiain The implication for the design of an urban fiscal sategy are sverl and oftea cnrdicry. ) use bwak-lou Prdiminary eimates suggest that th ecogs of fincing th back-log In local goods-war, t , sataion, drainae, roads and sold waste disposal- faced by the black-communaties in the four metropoitan area of South Aflca ranges from 4 to 8 percent of one year' sGD? dependi on the ( ee staof na inf at e and if~~~~j iv be sutainable at the maco vel. This figure clearly suggesu that from a macro pepetive the back-log in urb srices cannot be fAnced in one ye. Phased over S yer, investments in intermediate standard of urban services, for example, would rpesent aprodmaty 0.68 pect of GDP annually o apfrody40p=mt of p public investment that is consstent with the macrocnomic constaints. Pbased over 8 yeas, the imediste level inestments would be 0.42 pecent of anual GDP and 25 percent of useai agrab publc hnestm Tse simple calculatins show that in a low gowth aenmy, investmet in te urban sectr ae could quicldy account for a mw4or share of fte tot pubic investnt t is affdable by the naiol. It is crical, the, policy makr in South Africa tatkA no accout all the needs in amssesng the feasibilty of financng the back-lg in the urban area. In addition, the cculations sugges ta wio an emphasis on gowtig polies, South Afica will be sverey constrained in its abiW to meet pubLic hinest_m needs of the ecomy. Fially, the calculn show that the "Wgh standard lvd of ivestmt wM not be OI The itae and 16sml strength of e WLAs and JLAs: The white cilies bave a stog aMnsative nd fiscal base that supports the deivery of a very bigh sdard of urban infrascture and serices to white reside. The fiscal system is based an an implct axato (mark-up over cost) of services, mainy elecicity and water, and on an effective taxao of pperty. Te WLAs tax the buSne and commerca sctos and coss- subudm reside throgh bst rebates in reddea prop taxes. n orde to ensure the access to the implicit taxes o aer and electricity, also called tading account surluses, local governmet have been gin the sole riht to distdbu the services vitn thei muipa boundaies. he WLAs in the four metpotn areas are lary ef- fnancing d rely only to a lited ett on centra transfers. Their fiscal ind is further snhene by the fact that hea and education are financed by th center. Imlioliam The fiscal positon of white local authities suggests a pote for hozontal finncing of the poorer communides within each urba area e prope tax system is ssuong and the axation of servis is wel ingrained in wite municip . In addon, the eisting le of services and inis que hig. ac show that ith access to capital markets, WLAs would be in a position to fice the capial costs and opeaon and maintenance for upgrading eisng black communities to an intmiat lvel of service standard and in some cases also provide fumding for the reated bulk inastuctu f investment. Such a policy would requure both a pooling of resources by WLAs within eac metrpolit area and relafively small incr in prop taxs and tg account surpluses or reductons in curet expenditures. ln fact, in someurb areas, acces to turnover and payrol revenues of the Regional Service Councils (RSCs) at existing tax rates would obviate the need to inreas property or t g account tas. In addtion, if the ivestment progrms are phasied m over a loner peid local govementU wi be even more able to finance the capitl costs and O&M of the back-log in urban ifrastrcture and sices. This is an important concusion given a the economy also bes back-lop in other areas ivch as educai and heat which may be stronger conteders for resoures from other tier of governmt It should be noted, howev, that thes caulations assume that whfle WLAs and RSCs provide financing for capital investm and O& pay for the acua serices consumed (see below). The admini and technics of v the WLAs also suggests that even if the bcwk-log weme not financed at the local lvel, the delivey of the serc coud cerainy be bandled locally. In sum, the fiscal and adminia-ive base of WIAs may provde a stog fiscal and adminisi foundain for the unified cities of South Africa. Affordability ft the municipal levde, however, does not Imply that at the macro level the nation can easily fince the back-log in urban semices ihout major tradeoffs in other areas. As discussed eariJer, mroenomic costrnts may prent the rapid financing of urban sevices. Whie a sttegy of pooling resces acmss WLAs may alow municties to finance an hwesment program that is phased over a erta number of yeas, poHicy mabkrs will have to ensue that such iesent a consistnt with macro stabilty, extera borown capacity and other ivestn priodre Central spion ove te growth of local goverment enu,as has been ite pract in South Aftica, may be an important poicy instrument to maitain i the fiture. Additional itume include indirect control based on requirements to balance local budgets or obtain sppra for borrowing. XlAs: Th BLAs, on the otw hand, bave a weak fiscd and base. They are depndent on cetral and RSC trsfers to finance even the minimal lvl of sevices for the black communty. In the CentrAl Wts area, for exmple, these transfers acowt for waproimaey 90 pecent of the reeues of Łt BLAs. Tis dependence on fiscal trsfers is a result of several tors. Ft aparsheid po s bave foed theconcet of lower inome households in the townshis and hme efectivy zoned out business and commere In additon, these rgult have deprived the black cmmity from ownerip of land and housing. In the long run, the lack of ownershp has also prevened the blak community from geting access to capital markts th is needed to geneate a growi economy and tax base. Finaly, rent and sevice cg bocotts prosing the lack of rwresenive vernments have firther eroded the already limited fiscal base of BLAs. IiQlt;gn The weak fiscal base of the BLAs and dependence on cental flows raise tree important cnlsiderations. Frt w inoomcs, poory-defined prerty rihts, and prblems of enf ment may mke it diffcult to use t trditinl insrument of local finance-propert xes and user charges-to generat substntial amounts of addonal renue from the low income households m Soutf Afica. As a reslt, at least dunng the short-rn, second-best fisca instruments might be needed to geneat renues fromifie black communities. These miglh inclue, for eample, revenues from the value added ta (VA¶1) of the ceater, and turnover and payroll taxs from the RSCs. The broad base of the VAT and inefficiencies of the tumover osuggest tate former would be a ber instument t use. Its impleentaton would, howee, make local govemt hore dependent on upper- tier goverments. Second, the dependence of the BLAs an centrl tansfers for financing operaion and maintence costs suggests stgly gt any finacing stra for the South African cities will, certiy in the short to medium run, need to indude central flows. Mergr of cites and townships wi not autmatcally obviat the need for these fiscal transfers. Indeed, a simultaneous reducdon of cental flows and the impleman of a public investment program to finance the back-log may be difficult for the local base to susan. This imbalance vi would occu precisely at a moment when the very stutr of local vernments is about to change. Plans for any reducdon of these centrl taers in the future should be ipwlemented in phases. This process would includ˘ a review of acrrent public ce at the loca level and a efu assmet of the fiscal capacity of the indidual citieL Third, the culture of non-payment at has emergod in the onxta of aarteid sugget at only local nnts t e legmate and are able to delver servies pidly and visily can hope to Implmen user charges and oth beneficay taxes The need to pro sevices up fnt may re an impoa lemekt of distuti to e intae the pre of coletg bnfiary taxes. he M nae betwe representative local govenment and payment for sevces Is ulldmately one of th m criicd apocts of crtg fiscy sound and polcally accountable local authorities. Without acC to user-charge and prpe te local govenmets may find it difficu in the long nm, to achieve te level of a_outalit that fosters a sustainable loca goverment systm In view of the Impoance of user chages in this contet, it is asumed hat whe WLAs and RSCs wi be able to cos-subidize thefinacg of capial Iestmt and possibly a prtion of O0, beneIciari progressively be carged the real cost of servc provided. ent agreem reached witi communities to establi some leve of cost-revery for serices such as water and elec;triciy, as in the as of Soweto, povide the basis for dowly eaing the de en on benciary chages over the long-rum With the growth of a pwperty tax base In the black community, cost rewvery can also be intat for services for which direct user-charges are not technically feasible. In this context, it suld also be noted that rer local gements are a nal pereq for allowin community preferences to guide the debate on deivery standards and affordaility, creating perhaps a more reaistic oac to the delivery of pubic sevices. Without the community settng the lead an standards it wM be difficult to break the dependence on central flows or foster accountabilit n local goveunmet systems. (OM Urban stucture and locadon dynamics: In addion to racial segregatio, South African cities are also charcteIzed by jsctioar smaer WLAs and townships surround the core white cites. In spite of this fag tn, the differt jursditons withi urban areas have higMy intgted labor marets. Historcay, South African urban areas bave been monocentric with the bulk of employment in an uing, retail, and services lod wi the boundaies of the core cities. With the pressures of Uniion and the formal removal of apartheid laws, howeer, the allocation of pop on and busine acviies over the uren es will be in a state of flux for tcne ime to come. Prelimina data suggest th in recent yeas, there bas been a decentalization of employmt from the core tmb into t sronig wbite m palit. in addition, in cetain urban centers there bas been an outflow of white residents from the central city and an inflow of black resdents from adjacent tow ps and homelnds. Neverthls, it is expected that a substtial porin of the black community will continue to reside in the twnships m the foreseeable fiture. In additin, it is probable that manufacuring and service indu e will move into the black comm only at a slow pace. The economies of agglon and scale, sibst i advantage, and vii better seuity in WLAs may continue to 3lok-1n industres and buses to these arems for some tie to come. Impiiatiana First, it will be important to ensur that any fiscal srategy to finance the back-log does not provide Incentives that fter dit the spail structur of the ur sector For example, a centra tax is less liely to create netvs for reocinog Within nationa boundaies. egion specific turover as or local property te may, on the ote had, result In locaionl deciions basod on fiscal athe tha economic criteria. Second, the mobty of factr at the locd lvel plae a strn constrain the *aibit to implemt rdistibu poiEcies at the subnao lev Not only cn househd and bune move oude city boundars if tax budens are too heay, if the burdens are sufiientl different the movement may be from one city to another alogte. ird gien that the fomal ector condnues to pest in bedo ly ie areas, a proem will ned o be fonmd for tansrig some of the fiscal reurces back to the black communit. Thisis b te role RSC levies1 nd cenal trasfes we desgned to play in the curncily segregate local govEmnt ytem . In the fuue, it is expected that such trfers Wi ally occur through some redwing of boundais By merging the m uncipalits, it is argued that the black commnity wi form part of th am municipality to which they contrute their labor. Agan, give the mobii of ecomic nodes and that the workers from one black cmmunity may not neealy be woing in the a4jac city ggests that a rebavely broad drwin of boundaies wil be necesary to address this problm Ov) Fisl D eenrIti The strure of govement in South Africa is highly ceaized. The central sovernm has acces to about 80 percent of the revue colected by all iers of govermn and is resple for about 70 percent of total goverment expenditures. Local govments accun for 10 percent of te revenues and 7 percent of total governmet ependi. Political chnges in the coutry are not only directed twards creating a democratic and non-racial form of govenment; there are stog advocates for a decetralized, and perhaps, a fedea state. In practice, this may lead to a redrawing of regional boundaries and the creation of more powerfil regons with greater fiscal resonsibilies. he imt on local govents, however, remains uncerti IMiNiLaiiu&: Even as cities in South Afica begin to finance the back-log in uran services, they may be faced with new expendite reponsibilies devolved from uper-tier governments. Cities may not be abe to absob a rapid devoludion of new rp s and, at the same time, finance the current back-log of basic urban svices. In genera, the dependence of BLAs on cental flows and the potential for rapid fiscal de lizaon suggests two important points. First, there is a need for crrectly sequenc:g and dove-ailing !'Fasca paUcies can alo be usd to if o klocatioa decision of hoshod nd firm. Far ale, tax bras my be sivan for prmotnsg p*vt ivestt in cerain ocatios 'Ie aatas and dis e f uing fisapolceforcpuposisd niot adreOBd its porti Fue secor wk on urbn lnd plicies wM address this boadr ;am vii the merging of the cities, reducing the flows of curent tansfes and davdving addital expenditure reponsibil. Second, given the difficulty of aopi saquencing there is a possibility that a mismatbh of revenue and expenditure reBPonsibility at the loa leve maY emerge ridly, at les in some citis To gSad a such outcomes, it may be necessay to sillow m-ipolitan areas access to a rvue base capable of absobg such fisa shocks. Opions include aces to cental bas thoug urchages or through some guaraeed, rather than adhoc, revue shaing arranement. 6 The uors discusd above suggest ta there ar sffit conoMic and Poltca dHiferences between a t irperiod and the lokg-rm to wrant a differe set of financing sategis It is an ad t witin a vety showt period locd govermets wl need to un an unually lae amon of public invesme wit having th assrace ha they will be able to oUet prpry taes and u ges from the benefcars. e imemdia ned to finmce the ba*-log may precude the introducton of new fiscal insmet in th so n. in the log rn hownver, the Ivestmhnt plans wi be phaed over loger periods and a Wer porion of the urba community is epected to contribute to the loc revemue base. In adti Oe a lne horizon, local govents of the nmetlin ae wi ha greater fledblt to restuce the administr and fisca seng FnAy, as the aonal de on deceaon owly mfds, the penditure and revenue assgnments for the urban sector may change substially in the f . 7 Te discussion so fr sug severa, ofe ctIcr implati for the design of an urban fiscal saegy. On the oe band, the nature of the problem-financing access to local services-and he fisd and streng of the WLAs seem to Imwly ta th loc base should be used to fi:nance the back-log. ndeed, cculaions clealy show ta with es paying foir the acal lvels of sevies consumed, WLs may be able to finne the capital costs and possibly a portion of O&M of upgrading esting black setements. Emphasizing local fncing would also contnbute to greater local autonomy and accountabiity. In addition, given the other equally overwhdming problems in the economy, including the need to finamce health and educaton whi are cu ty central s iits, it may be agued ta the cities of South Africa will have to lo_ iwad to address the problems of the ban sector. On the other band, liited access to revenues from lowr- income groups, avoidance of locatoa distortins, uncertinty of the outcome of the debate on fiscal deceal and the need for redisiution would suggest that there is' strong role for upper tier gernments. Any strategy tD finance the cities of South Africa must find a balnce between these different vim of the problem-a balance that must address the needs of both the tansidon and the long-run. It is the coAtention of thi report tat such a balance will be detmined by the way the boundaries of the a mated cities are ulimately drawn. Elements of A Stateg: Redrawin Boundaries 8 'he first critical elen in devising an urba fiscal straW for South Aicat cities vit be the redrawig of JmUnIICia boudari Two very difrt opos are beg ddeated: (i) the administve mergers of WLAs and adjacent townships-a wtwlning prog of Sor or (ii) the creation of a metplitan govement enopassig seer of the munici.1, _/An ex=ampl of a twing could bo &e meg of Smdi and Aleada or Sadon Randbur ad Aeanwm-sesahic proximt beig th uai deenant of _ucn sgors. aiTh grear Cap ToW mm includigu li such as S_114d, Poad, Well_t, Bville, etc. ix 9 he dawing of narrow boundaries, as proposed in the twinng optdon, would not provide a sustainable fiscal unit for fnancing the back-log. The burden shaig would be ly unequa and sich pOici woud promote f spatial disoros as households and eonomic nodes seek to escape the bnidece of higher taxes-especiay if polcies are undertk at the local level. Narrow boundaries would also fail to internalize the spillovers of cos and benefits that are common in an urban setting. Cetal or regional tansfers can be used tD compeanse for both the unequal burde sharing and the slover Such policies may, howev, perpea the depednce of local authorii an upper tier govrnments with the posle loss of automy, tse and effidency Of low-tier governments. It may also led to thweus if t fisc souces In a metrpolitan setti, eve if higher income bas reocate wiftin an urban conuwbation tie metro could always be acess to ir propt taxs for equalizto purposes In a Otwinned* system, the muncpaity losing the prperty base would need to rey on tral or regioa ta instrments (e.g. he vi incim tax) wbich may be mo- disthn the use of property taxes. 10 y, wider metrqpotan boundaries and hene some form of meitan adminisaton may be a fdamental perequi for te, desg of any sccessu fiscal state for financing the cities of South Afiica Th boumdaries woud have to be drawn to take into account the nature of the labor market integratio behween the diferent local authorte and could, in prctce incude sever pe existence I sepate municialitie under a metropolitan amin'istation woud preser the effidency of smaller- sized govenments and promote greatr antability to tir 11 Over a loe boron, a metropolian form of governm t would also provide the flexlit for implementg ethat have a more metro-wide impact. For example, the benefits of eoomies of scale could be capture by prviding water and dectcity ove a metopoltan boundary. This wider distribution would also improe the ablit to cross- subsize between consumers In addition, a metrnplitan governmt would be best placed to inherit zoning evein the short run, to promote a more rational spatial structure. Finally, the eonomic arguments in support of a metpolit boundary are furte strengthened by the political redities of South African cities. A metolitan govermnt would pzovide a better hance at 'levelling the playing field.' wowld on the othaer band, be a examplb of a moLpolt III this case, eonomic factors w c as labo akt inratn and envares thad pmot econom of oae would be th. prmy d _ftrmimb of a mo bouday. Nte the exampls sed in tisfootnote are fbr iustati purposes ony aynd dwid no be intebptd as n_ fr drwing bosmdauie 'This struure is ofRa eerd to as a two-Ce meto_polta sym. in t cm of Swou Africa a two-tier sysem my inclde, far aumple, a rpolin ftr wit a grp of twinned- mas th scod te. VMh. gais in ecfidcq ad aoubbit wM n be auomaty achived. For exape, in th contt of a two-Iier mod wit twimC ut, mnicipat wi ecompa lar pVopulao Ie chlsg wil be to cet W=Ullr vel pzwmatio and loca patcipto in individu municsxipt wan a cities establs metopoita adwrte and govermes x Elemet .f A Sttey: The Transito 12 Duing th Unsion, a me an adminion could funtio as a Obanker"v to financ t delivery of services acos the constt munid. an would permit the rapid delivery of services by restucg e ng adrstrative system of the WLAs and RSCs but witho having to create a cowipltdly new adminie ter for the delvery of sevices In addition, such a ansIoary arangeMt would prvide some flexRly for the fue which is an advane ia the ontext of South Africa whee the economic and demo c evoludon of the urb ars s in a stae of flux. Finally, by pooing fiscal resources vithin metroPolitan aras, t cities will be a to find mVar components of the back-log in uban infrastructue and servic withot to addidondal cenra transfer. 13 As a banker, the metopolitnm could potendaly have access t toree sourc of revenue: turnove and payroUl tames that ae currently in he bands of fSCs; (u) a potion of the prpe ta coected by the WLAs; and (ii) the contnued cent tansfrrs cuntly desgnded for the BLALs n the absece of user charges and prpet taxs the unoe and payroll taxes prvide a seond-estw inumt to finance the back- log fom tet direct ic captal investments in the blck a mmuniie he property tas fom the WLAs are te reirb aspect of this fia an As a fir step, the metros coud inhert th rxbat curny being given to reide in the WLAs. Subsequently, a fixed proprt of the noe tial porty coWectons could also be desgnatd to th mers This would compens for the lock-in" efe that apartdhd polcies have had on the location of indu Fialy, maintaning the centra flows woud, as argued before, assit the municipifies in their process of uctrig and strengthen the of the metro as a baIer. tis nt, the mui s, woud retn access to a porton of the property taxes and perhaps a portion of the trading acomt 14 Ihe role of a baner' for the metro uding etrane tion is not apassiveone; its ability to pass on large amounts of funds wil shape the emergence of the new munI This power, howew, shud not be ad-hoc. A trnsp t and predictable system of transfers wil be essential in promotmg a sustainable local govemment strucre. To ensu prper accouailit, the fimctions of the metro and m idplties may need to beD incorpoated in local govnmnt legiadon and pers ce the coution. Te critical !2Jb the conta of ts aper. to term bm is sed figuraively to chaateix a metr Iopolitan adosmminsrto tat doe not hav my di:ec expendimtue esposilt. ltb sdol sosbiityis fai o finaniB g expeditums Of malties. VIt is suggetd in ths pper ta in t futr diesbut objeties may prevet muncipais *fom gnring supu from te turding acot. In additin it is a d tat tadng accouts may be an ineffie soume of mree for finnig g8nal mniipd seric Whe a ce may be made to mtai ths sour of reve at h municipad led during a tsitidoury paeid, in to log ru it wM bei mene eficiet and equit o transfer th rosbit for i g electciy and wda to a meoplita autorit. T6 ism. of whethr th *o or ud sould ave heo autoty to bow from copitd makts bsa n bee ised in this ret A case muay be put forwad thAt a o woultd ho 8ae abit to rise resures fom apia mkes at a lower c a a municiaity. TIis ima wm be addruud in ftu me wor xi and powel role played by tie metro underscores the need for legitimate and accotable represenaton as a prerequste for the efetive functioning of this fiscal system. 15 Duing the Ioplemention f sucb a fiscal a mnt poicy maers wil have to decide on the relave weights to assig to each source of revenue. A greater use of turnor, payrol and popert O wi push the system twards local finacing whle rnce oan central tasfers wil clearly promote more uper der fiacing. A dmilar choice will have to be made in decn aon the sare of rvenues betwee the meto and the municipity. At one extreme aU revenues gated witn a mooliutan area could be alocated to the metro; the muni ties woud in effect become miniave arms of the mehepoan autority. If muni ties a to retain teir abiity to del} a lev of svice tht lect the p e of thder , a larger porion of the revenues and the right to set rats an prperty may need to reman at ths level In this sceo, the metro in effect tm the responbity for equalizing and financing a basic standard of service across the metropoitan bouday ag muiities o respond to the differe pdences of their comt,-mmnities 16 A altnate aoach would be t. introduce expenditure responsibilities at the mtopolian level eve durig the transtion.In this case, th objectv of ensuring the availability of a basic stadard of setvices across toe municipalities could be achieved theugh the direct delivery of services by the metropola Tentity. As aRgued tarhler nm ....*gy F justifyg the -banrM Iormat, this stategyu would require subsantia restructuringwhich may . delay the financing of the back-log and "lock-i the organization of a metropoltantier during a period in which bv a t ti b h .h the dmgahcand economic evolutio of the urban areas remains uncertan. For these, reasons, the issue Of reassigningfctions has been raised in the context of the long-run. However, if it is perceived tha the benefits of resinng expenditur functdons, as described below,, outweigh thes poftena costs,, it may be advisable to restrcture the ddelvry of major items such as water, electricity and water even during the. utrasiio. Elmetsof A Strateg: Wm. Long Rom 17 Three inmpotant policy issuer form the badk .bone of the longer rnm strateg. First, intenatona exerience strongly suggests that urban centers in South Africa wil continue to feel the pressures of decentralization as economic nodes and higher income bases move away from the core cities. To preserve the fiscal integrity of the cities, polices may bave to be enacted to ensure that metropolitan areas have access to the fiscal base that move beyond the xii boundais of metropolitan areas. Second, poy makes may need to devolve new tax instruments o metropolitan nts. Such measures would help rplace he highly inefficient uove tax, add a fisca base to support the property tax which, for a vwiety of eso may not be buoyant in the long un, and finaly reduce the relan of the cities on central transfe The latter step woud p˘omote greater independe and accountalit of the cities. Ibird, given the revely stronger fiscal positi of the metrOpolitn gove nt, idther a realocato of expdiu or fiscal assignments may be rquired betwen the metro and its mu ic 18 In die first case, one opdt is to rdy on gretr coent (or regioa) transfin cnta tax instments bave th broadest geograpWhc coveiaq. Shoct of crossing national bondaries, households and bu_nse cannot esap Uter fiscal r esponsbilities for tx of tral governme.This sttgy would increase the depende of the cities on centrl flows. A secoond option, If rliae oa he oeter is to be avoided, b o draw die municipal boundaries lare enough to esthe grwth of new m lie in the case of, for examle, the Mcl l aang t In addio, policy makets may coder the optin of passing lgslation to grant meopoli t right to annex or veto the incopoation of new mu ties and communities outside te boundaries-creating in effec 'citis wosubur 19 In the devoluion of new fiscal inruments, th opdonseem very restcted. i rpot suggest that in the contextof t country's fis dc nliopo areas may be best advised to bave a system of a on personal income tax and an of excise and autmov ax. The futue demads of urbadiaon and, perhaps, decentzatio of new expenditure spon e, b hove, may requre central and reionl transfers. The caen will be to enwr the predictabqliy of such flows so that both local govemts and the capi market Perceive such resoure as 'own reeues' of the cies. Legislation defing such tasfers as lly bdonfng to the cities, as well as applicaion of leglY establised formulw in the alocation of such transfers, may be required. Fialy, to reiterat a pOint embasized earlier, it is asmed tat over the long-nm th emeging local gonm w continue to exnd the base of propert ts and user charges to all households in the urban c. 20 The alion of expenditme and revenue re between the mpality and the metro is an important issue. Critera such as qillovers of benefl3, economies of scale, beter cmdination, and redistribution suggest ha metro-wide dery of certi services may be needed. Tati and water and ectrcit distribution are good candides for metro-wide r s as utilides serving specal purpose distrcs or as depatments within a metropolitan govement Equally importan plemting caldy drawn lines of rponsbiity between the metro and the municipaliies will be cridcal in ensuring that accoubilit of these two tiers of local government is tanspant. As sugested earlier, the gains from changing the de rsnsility may be sufficiently high to en begin this process at an early stage. xiii CouclAuao 21 In rCtui- e mupalites of Souti Africa, policy-makrs fae two citical decions: the drawing of bounas and the de ent of a financing sategy. It is te coclusion of this repo ta the choice of municipal boundaes will dircly influee the slecton of fiscal strates. A narrow twinning* of WLAs and BLAs wi requir regioa or cental trandsfer to sustn the new mu Wicipsii A metopoltan structure, on the ote band, will alow for great reliance on locad financing of urban inratucture and seviceL If the rapid ddivy of the back-log requirs cental asistance, under a merpolitan system this may only need to be of liited duaion and coud be desgned to be so. Under a twined system, the recourse to cental or regioal ters may be greater and ha loger. 22 This rport cludes tat a mehopolitn system of fice woud best upport the pAeess of 1, of cte and townships and proide the basis for an effectv local gove system In South Afri Durig the transition, it was sugged t the mekto could play a role of a 1banker. Inhe long run, howe, it wi be more efficet and equitae to ctrasfer expenditure resp ties also to the metropotn level -ther as speci pupo diricts or part of the metrln o eese gains may be sufficietly strong to reorgan the expenditure side for sdected fumntons even in the shrt- run. The creaion of a me ta er does not preclude the ece of mun tes within its boudar It b suggested in the report that Mvidual mu ic ies under a mehtopolit umbrella can play an efficient role in the deivery and financing of svices. Overall, in a two-tier sym it is suggested tat the metro-ter can play the role of 'equalizer' by financing a minimum standard of services across the mue while the inde idual local autoiti can cate t the specific preferenc Of their own cosiuncies. 23 Three caveats need to be raised at this stage. Without a system of effectv and creible represetation, the fisca arangements discussed in this report would fal to meet the needs of Soh Africa. Second, with time, the cites in South Africa wl coninue to be the growth center of the country. care must be ta that the metrs have the resources needed to continue to play this vit natioal role. Third, and equally impotn while access to services is an important aspect of builing the economic base of fte black communit,in the long run, sustined iment in human capital wil be critical in revsing the incohe diff- enials that characterie the South Afrcan communities. Indeed, without a strong py of investmnt in education, the possibility of a peranent under cla in Sout'h Afkican cite looms large. Financing The Metropolitan Areas of South Africa Chapter 1: It 1.1 lbe Stkes of Urban age. Th uban sctor in South Af*ica acunts for about sixty pcent of the country's population and over dght percent of its GDP. Nowhere is this concetratSioa of people and ecnomic activity more visible th in the four major tropoin areas-the Pretoa-W rVal V) com x, Cape Town, Durban and Port Eizbth-which repent almost forty-fie percent of the p aion and an ve hih share of GDP. In fact, some esmates S t the PWV area ae wM account for about 50 permt of the country's GDP by the yea 2000. For South Afria, th reality of such de phic nd eonomic co -~PNcetrations is cdear: withou welfuncinn citis the abilty to sustan an overall. econom ic recovery wll be jeopadized. Desgaing a comprehnsive urban y is thereoe an important ntlod priot fo South Afric 1.2 Such a task wil be made diffict, howve, by the legacy of aparthid. Segreged aknmg raciHnes, the u secto reflec and rs from the i ties and inefficid s of South a's cal history. Whi cities are effecively managed and have a stog fiscd base. The govanc structue of the cities serve wl the minit white poln of South Africa The black township, generally situate at some distance from the cenrs of dthe ciie, were desged as dormitory towns to povide labor for the white cmmuities Without a fisca base and an effective * governance structure, hes townships, in stark conta to the adjacent cities, have a low level of i r and basic serices. 1.3 South Africa is undergoing historic change. There is wdesprad ageement on the need to create a non-racil, democratic system of government and to end the social and economic legacy of aparhed. With te maority of the black popuation lackng access to basic sevces, it is exected that cities wi play a critical role in implmentig redisributiol and povet allevting polcies. Te stategy being debated at the urban level to achieve these broader objectives is how to create unified city stuctr by merging the ciies and the adjacent twnships. While the pross of amalgamation remains undefined-partly because there is no one formula for undoing the dualities and partly because the poltcal sitat at the natonal level is in a state of flux- the economic and emograic concentions of te cities early underscore the imporance of the stakes involved. 1.4 At the poltica level, the restructuring of the urban sector is at the cene of South Africa's bid to create non-racial government stucur. EquaUly important, its soca aspect is about access to basic services: water, detriciy, housing, educatio and health. With about 60 peet of the country's popublion in the urban sector, amalgamat cites are expected toplay a fimdamental roe in the efficient and equita- ble pvision of public goods. Fially, the atio of economic actiit in the uran sector soggest that uring the producivity of cities wil be crtica in renewing growth and promoting equity at the natna lel The ability of South Africa to cret non-racial governm, provide badc services to the majority of the -2- opuati and sustai eomic growth will thus hinge on the succesful Integaiomn of the r y divided cities. 1.5 Ppope and Scope: FsclmD eos As Is implidt in the ob jecdves of tIe lmation proc de d above, t unificatbo of vastly differet segmts of the urban Scr wi require far reachig cges n the polical, s e and eoomic fibric of the ciies. The Woad anks sco wok is desged to ident how this process wi affect opeains of the bn eonoomy. In ti regad, 1he Bank is udetdug wok in urban transpor, land and ho g sectors. 1.6 A cica issu u ding almot 1 ape of the urba economy is the financid abit of th mtroptan area to sustn tmseve. s M tfor focues on os f nfyit ft urba rM of Souh Africa and addre in parula thIssue of fisa imbalne and r ue shang arrage betwee the cit and townsips. While concentratidg on the Witi- aI ae, the lesos and impcations drawn oar relevant for the four meton ams of th Country. Th fiscl dimensions of the proem bv ben defied to cover the fowin th critical (a) Esuring, in the short ru, the immedt abt of ties to finae the back-log in basic services ftced by fte lk community (b) Creng in the medium to long rn, an effient and equitabe fisc system that ensures the economic susinabiity of the cie; and (c) Ensring that the tranonad arangents do not e the economic foundato of the cities or the maciro-abfi do the economy. The chalenge is to des a fiseal stategy that wi aieve these ojecve 1.7 The economic strength of South Africa lies in its growing cities and, ot surprisingly, it may be argued a the seds of a successfl fiscal stategy may also lie wthin the boumdaries of the urban centers. One opdon is to extend the current fiscal and adm system of white cites to finane the delivery of srvis across the black twnship' cit in this approach is the assumptio ta the revenue and adinistrative bases of white municipalities are res enough to provide the fiscal foundaon fr the amalg cities. 1.8 Givn e extn of the back-log in smices and the need for implem ng redistri- buton ev at the lod levl, a competing hypot would suggest that the hoizontal extension of the fiscal system of wite mun ities may not be sufficient (m ter of revue adequay) or app˘opriat (in terms of equity or effcienc) to meet the goals defined above. Instead, it may be necessary to establish a fiscal arangement n which local governments retain some of the fiscal resources th are to the center to finance the xpenditre aeeds of cities during e sort and, peraps, the long run. Underlying this sttegy is the critical assumption that the reStructun of the metropolitan areas is a national -3 - issue with natinal Oimwcats; the stakes are too high to consier it pimarily a local problem. 1.9 hs port look at the tadeoffs inherent in the vriou option t is concuded in the report th the choice of a fiscl sategy wil ulimately be detmined by the way the boundais of the a md cites are drawn. Te analysis uggests that the amalgamaton process may bes succeed under a metroilan ysum of finance in which municipalies pool their fiscal an admitative resources over a metropohlitan bounday. 1.10 Chopter 2 ough 4 of this report loo at te aris of the urban setting in South Africa which will inf lu he choice of the fiscd sty to be adopted. Chapter 2 provides an analys of th current ysm of local pvment finance whle Capter 3 qui the extent of the back-log in urban inf ctureand svices. Chapter 3 theref esmat the size of the fisal ock that may be placed on the locd govemment finances dming the prooess o Ca Ct 4 loob at other aos whch wil impe on the desig of an urban fiscal poicy and, in patcular, the impact of locatial decision of hsehosand fims and the naonal debateon restrutuin the in ve nl fiscal sytem. Based on te discusso in Chapts 2 though 4, Cbapter 5 provides an atalysis of the fisc atrnatvs during the tamti wbe Cbapt 6 eeds the discussion to long-rn 1.11 As suggested earlier, the rsucigofŁthe urbnsector is aimed at creatig a demrtic govemment and at revesing the socia and economic costs of artheid. The alenge wim be to choose a fiscal ategy at wi srt these larger goals-te issue of fin g cities is thus moe˘ fuMdamental than merely chooSing the right set of fiscal tooS to financ th back-log in basic serices For example, a stateg based on promotig local participation in the choice of type and levd of urban sevices prvided and an secuing propety rigts will produce a fiscaly more sustainable outcome and stgthe the democrat- ic process Conversely, given the come equities between the comm , an inappro- prate fiscl egy may inadvertently sregthen the spatial distortions of apartheid. Both these emples suggest strong that the financing of the back-log should be seen as an opportuIty to create longdg lstus and city structures that support the sustaLnabllt of the econmic foundations of the metropolita areas of South Africa. -4- Chapter2: Lcal Goverment Face 2.1 The policy options fo financing the fiture expedture needs of the me itan areas wi be influenced by the eidsing ficia arngem s of wbie d blacIk mwcale. To set the stage for the disc o on fiscal a the analy in this dhaper focuses on the cunt system of loca govenmt finnce. Local enms are first placod in the contex of national government, fowed by a discussan of the ficl differences between black and white local autht 2.2 Oveall, South Africa has a highly cnalized system of inter-goernmental finn Lal g nme ave limied ependiture rwt moor s such as edain and heat bn financed by ohe center. Wihn loc govement, the contr in te fisc suatio of he twsh and cites b very much vident. Fiscally wed;, the blk townships ar heavily dependent on cetrl tansfer White ctish, on th other hand, am largely self-fiag. Tis outwome is a refle of te sptial and economic serpion imposed by reid. With iincom resdents and bunesses loatd within the boundaris of WLAs, the m c es in t m eopo areas genly rdy on mark- ups on le and wat and pomty taes to finance teir exedt need he etent to which tis locd govement ystem of fiace can be used to the needs of matd cities is central to the discusion in Chapters 5and 6. The Naonal Context 2.3 Sthute. The govement structur of South Africa compris of tee ters: the center, the regon and locad authorities. Ihe regional tier is composed of the Provinces, Sef- verning Territoies (SGI), and the TBVC group. Loca authities inlude the Regioa Service Councils (RSC), the Black Local Authorite (BA) and the White Loc Authorities (WLA). 2.4 The national boundarY is composed of the four Povinc and the TBVCfSGT group. Each Province is served by sveral 1RSCs. In , the RSCs span groupng of BLAs and WLAs. It is imporn to note that fth analysis in this report is restcted to the local authori- ties and their reatiosip with the Provinces and the Center. 2.5 Revenue Assgmet The main tax inments, value-added tax (VA7), personal income tax (PM1), and corpoate ncome tax (CM'!) are under the ontrol of the central goverment. In addiin, the center also has access to customs duty, excites and fue levy. ITe Provinces, which in fact are dconcentred arms of the center, have acces to only a limited set of revenue in composed pimarily of beng and tsor taxes, taes on vehicles, and charges on variu sevices provided incuding het svices. At the local level, the ma sorces of reveue for RSCs are tuover and payrll taxes. WIAs hae access to use arges and property te while BLAs raise revenues pimariy through fees and rents 'In Povice of Nal ts an caed Jon Sevice car or 12a. 2.5 ERes sb . $be central government plays a prominent role in al sRes of pubic eincluding protection. sevices, edon, socia security and welfare, tanspot d Provices maiy pvide hot and heat services, roads and raffic other eginal savices. n addition, Provines have the repnibility of overseeing resourc ftrasfers to local authorities, primariy BLAsL The local mui are concernd primarly with distribuing water and electicity and pro n oth servies. MThe RSCs have the sfor fincing capi iesments that are more regional in soope and improving and upgrading infrastuce in the poor- includn blak- mdcdip =103s. 2.6 As the decriptio of the sucture of ve and e asgment of expeditue and revenue r ib already suggest, South Afica is a ighy centrized state. Acco g to 1990191 budgety figures, the Central ovenment accounted for approxi- maely 80 percet of the tot renues colected and 70 percent of the total governmt expndiure.Lca g e n on the oter hand, represen about 10 percet of the total revenues colected and about 8 pet of public eX Given that Provi are decoancil- entra arms of te cen, the fiur actuy undrtafte the exn of te cental- iaion. 2.7 This bigh level of c, hower, mash a dult at the sub-natioa level: Nawtio-wide about t rt of te revenues Of white m c ities originate_ fom own sources By cntrast, at th regioa lve, for the Provinces and TBVCISGT this figure was in 1990/91, for-eample, 16 percent and 42 percent repectvey. The depedence of BIAs on the center is equallyhigh. SouthAfica is hus ized by a duntal structure On one side is a system of finance in which the central government provides the fisc base of the TBVC, SGT, and BLAs thrugh substnt trnsfers, and on the other an adapted version of a centazed system which, m pracice, allows white local authrities sufficin autonomy to act as an independent tier of govenmenL To ass how this duality will affect the desig of policy optis fore meopolitn areas in the future, the following sectons prvide a detd desaciption of the finncing mechansms of local nm . 2MTee aeowwr, sgnifiant d8 nes, betwe som of dheo egina concils. doth Cape Povinc for eml regonalwuncils als av ponsibiity for ual oam 3Mw discussion dw mainily on dat t loca o mve rin *t Cendra Wats egi. Ie boa d concuus hower applcbl to othr psu of th county. -6- Tsble 2L: Sae d Revene, and Trses by Th of Goverment 1990191 Wmru SM f Owu xff=nau Centra 80.1 70.9 _ Proic 2.0 9.7 83.6 TBVC/SGT 6.7 11.8 58.1 Locd 10.6 7.6 17.8 Total ~~~100.0 100.0 100.0 -~ ~ ~~~~S7S 1'11__. 19__,__ W5_ Transfersas % ofGDP 5.7 6.1 6.2 6.4 Trnsfe as % of GDP (extra-budgetry incl) 9.6 10.1 10.1 10.8 Transfes as % of E_penditures 30.4 30.9 29.7 32.3 30wDepubuopt of FinMc 2.8 fnadng of BLAs. Black loca autbhoties (BIA) in South Africa ae haviy dependen on cental govement and RSC tansfrs for financizg of public services. The lack of a fiscd base m blabck ownsip is a reut of various frces. First, partheid poliies have forced the concentraon of lo - houols in the twnships and have placed effective bas to the gowth of the formal mand commercdal sector lb the BLAs. These reulons have deprved the blck commuriy of ownersip of land and houing, thus aborting the grwth of a property tax system. In the long run, the lack of ownershiprights has awso prented the lack communit from using land and housing as a form of colateral to generate a gowing economic and, hence, a taxe income base. Fmially, rents and sevice chge boycotts prosting the lack of r ie gov met. strucres have further diminished te aready lmited revenues being colected by the BLAs. 2.9 The dependence on upper-ter fancing is weU reflected in the data for BIA in the Central Wits RSC, wh is one of the richest region in the country. As Table 2.2 shw, own revenues accounts for a all portion of toaWl revenus. For Central RSC as a whole, own revenues of BLAs are apoximately five pece of total revues. iae major porion of the revenues are eite central government transfers, prdominanly gena grants -7- rovided through Prvildm or grns for current expenditure from RSC lee (paYrl and turover taes). TU'e 2.2: Reene Sutre of BNA in Central Wi: 199293 Buget (Rad Milo) AMmubs __I____ swd Own Reveme 0.3 3.5 0.9 9.9 Health rant 0.7 0.6 0.0 10.1 Provhild Grat 16.8 28.2 7.4 103.4 RSC Grant for O&M 16.9 22.0 2.8 57.9 Totil 34.7 S4.3 11.1 181.3 Own evene 0.86 6.45 8.11 5.46 Helth Grat 2.02 1.10 0.0 5.57 Provinc1al 48.41 51.93 66.67 57.03 RSC Grant for O&M 48.70 40.M2 25.23 31.94 CO _wS 2.10 The station at the tonal leve is similar. Grants from the cental goverment account for over 60 pert of the revues of KA across the country. This is wel reflected e fact that Provia grants have bee incasing at a rate of abou 17 pecent amnualy, from 370 milion Rands in FY 1987188 tD about 800 mIllion and in FY 199293. Whie stil a relatvly small portion of the overa inter-govenmena transfers, on aeage about 10 percent of total, these grts have progressidy become the dominat source of fnance for BLAs. Initialy clasfied as bridging loans and inteded for financig ceptal exditure in black comies n go ment has coverted the flows to explicit grants for financing of current expenditu In addio, as explained below, even the RSC revenues-which are suppose to finace capl exptu in the bac communities-have been dierted to finance te curent expenditur of BIAs. 2.11 Fancg o WLAs. Rdative to LA the fisc story of WLAs is one of p contrasts. As the data on CentralWts RSC in Table 2.3 suggest on average, grantsfom ote tierg account for approximately th perct of the total income of WLAs- the crdW figure for BLAs was ose to 95 percea. Propery axmes, implicit taxes on nmpIon of dectricity, water and other services (surplus on aaig services) and interet income provie t man sources of income for WLAs. -8~ Table 2.3: Ceta Rand: C UtIo to Net N (ul ist. & Grants) Yew.adi JJ191e(30 199t (O) JS 193 Propert Twxe Residential 12.10 15.80 15.40 IndustriallCoinmerclal 17.20 24.40 23.70 Governent 10.70 12.50 12.30 TOWlo pery Taxs 40.10 2.67 51.38 Surlses om Serices 23.22 11.19 13.81 t 33.67 33.00 31.78 Grants 3.01 3.13 3.03 TOTAL 100.00 100.00 100.00 DM oe km TOw -.. 2.12 Seral imaotat fatre of the WIA finc sol be noted. Frst the implcit taxes on a Of servies such as lecricity and w repren an importn source Of income for WLAs To enure the access to this Ace of revenue, local authorities have been give the excusie right: to distribute svies suh as water and dectrty. As a resut, each white municipaity bas its own distribution network; in a reativey integrated urban setting such as Central Wits, for empe, there are at least five sepate local authority distributon utiities for wate and deecicity and naton-wide there are more ta 700 at the loca level. These distrition utiLties puch ectty and wat in bulk and distrbute to users w their muncipa boundaris. Not only do consmers of dectrit pay full use chares that compensat for cail and opatig and maintenanm costs but also an implicit excise tax on wat and delecity. Between 1990 and 1992 the tax on electricity in the various WLAs in Cetral Wits, for emple, has averaged around 20 percent for elcticity. The averge for water was 11 percent ere are large variations around these averages with Johanneburg charging 45 percent implicit tax rate on eectricity in 1991 and Randbwrg charging 22 percent for water in the same yea. 2.13 The revenues from the high lael of axatio of elcticity and water, boweve, ae used to cros subidize other services and dampen the caes in pperty taes. In fact, in the maor WLAs, taxes on prpeties are set ydimlI after the iplities bave decided on the level of profits to be generated from the distribution of sevices such as electricty and water. For eample, Table 2.4 shows for J burg and Rdepoort the required in the share of propery taxes in total revenue if the combined amount of elecity and water sluses were to be genented from txes an property. 4Icldes i teuit paynws. Dae was hovr available to soedtua tde eztt of "ntW intee ad 'intu intet pymts li.r low is in efe a bool ping dwvie -9- Table 2.4.:ading Account SmuTrus and Plroperty Taxem TOW _ AsbWSm Req* Rmar 1989i90 17.5 32.4 [229] [27.63 1990191 15.9 30.5 (23.01 [27.01 . 1991/92 22.3 30.4 [22.9] 18.31 Nuubeu in uum. bracke m we r Iaobodpot 2.14 Ile cws-subsidy ftom tdg auco to property taes hov poit to a seond cdara sic f the W Iaes: te re ofross-sbsdy betwen buineaes and sdents Overall, reidet In WLAs In the Cental Wits Area receive a rebate of the order of 35-60 pecn in ate prpe tax payment wbich is not avaible to busnese o Tab.e 2.5: Central WIS LAs: Propty Tax Rebates IM Residential 35/55 Govermnmet Raf ResidentWal 40.00 Goverment 20.00 Residential 60.00 Government Roodepoot R2esidenltial 40.00 Tovermet10.00 Source Data cletemd fiom Towa Tresinrera - 10 - 2.15 The fina fiscal icidene and efcency of this sstem of finance are not obvious. Clearly, by zoning businesses within white commui, WLAs hae been able tO ross sidize ther reidents in the form of property tax zebates. However, to the exent that busines ae able to pan ao uke cost of thegm ess ches, ecally in the case of non- ttadeables, he aoss-subsidy is proptioAy less. On the othder and, gie te higly integd naue ofthe labor mark in the metro areas, the poteta for eportig part of tiNs tax burden fm WLAs to BLAs s quite higbh thus furthe protg the cos-subsidy to white reident l laner iso e bas bo one of th princip sources of tension in th polits of apheid y zoning in businesses withi their municipal boundaries, WLAs have foced members of the black community to work and consume in wbite areas, tius ndec financin part of the cross-sb3idy to white resdet 2.16 Rarless of whether this system of implicit excise as an services, higber property taxes on busess actvities ad resdentia rebates is an effdicit or equitae system, it cealy scores wel on revenue adequacy-as reflected by the limited relance of WLAs on upper-tier 6afr In fact ts system sems wel adaptd to finang the publi sevice needs of municipalits where equiy dimensions; play a smal role and exeniture q rsosibilities we limitedAS pobed out earlier, loca autrities in South Africa are not responsible for iems such as education and health. Tbe critical quesion therfoe is e extent to which such a sysem of fiacing can be party ar fully exeded to the future amalted cities of South Africa-t dicussion of ths queston is centrl to the analysi CS 5. 2.17 RegIona Servie Counil RSCsftSs wee establ by the nationa govenment in 1987. Giv the authority to raise payrol and tumover tx over a larger metopon area cmpised of several WLAs and BLAs, the RSCs have te authority to finance, on a prqect by project basis, capital hvestme of a regonal nature and also infa ctr in the black twships 2.18 Even though the mandate is tD finanCe capital invesments, pogressively, the RSC budgets have been diverted to fiace the operto and nenane costs of BI-ds reducing the reed for centra govenment to continuously icrse transfers tough the Provincs to the black townships. For emple, in 1992/93 budget the Central RSC has allocated appromately 40 percent of its revenues to finance the curret pendite of BLA in its jurisictions'. The remainder is used to finance capital investment in the tDwn- ships on a project by project bais. 2.19 By creating a fiscal arrangement over a group of WLAs and BLAs, RSCs form a geogpic boundary that bas thie potn of captuing some of the splovers that resul frm the fagmented nature of the urban ou-bas of South Africa. For eample, by leing the buines tax and payrol xs witin the boudari of WLAs and fiancing investm in B1As, the RSCs to a cetai t return to the black community some its sae of the sCa, RSC amy be an sxtem e_nq. Oe RSCs an veag. sfocated aboaft 20% of dim Wg for -n cqxaftua_ fisal contribution t Lo WAs. In addio, there may be som element ofredistribudon in these flos 2.20 To summarie, whid a ghly centald system of intergovermental Sance. the overall fiscal tuation of local govern iS one of contrasts. WA are fiscay stog reying an uschagw s and prpet ae to finac tWr expendit nees while the BAs wre dqedent on central and RSC tafe. Not ony bas this system of fiance lef the BlAs fiscaly weak, it bas also desoyed te basic elements of goveanc and zooq.~~~~~~~~~~~~~~~~~ - 12 - Chapter 3: Size d the Back-log 3.1 One of the critical problems confog the cities of South Aica is the back-log in urban inftuctu and basic seices in the bla communities. kHow to pdly finane these invesmet is a cetrl dement of the debate on bcal gov ts. is provides an int assessment of teie and nature of the back-log in local goods across te four meIPtpoltan areas. To assess the ete of the potential fiscl hock on locl govents, thesesmates are pLaced in the context of the expendime md revenue flows of the cites In doin ts alyss it is initially asmed that ony th fisa base of the RSCa and WLAs ar avaiable to Anc the back-log. Mm chpW cnude by l at some of the implications for the deign of fiscl strategies and idenfs ke aeas that wM ned to be, addressed in fatr wodL 3.2 Affordaty of te urban invesmet pgam needs to be as_d at the household, munica and macro l Preimiy anaysis sges ta WLAs and RSCs would be able to finae t capital inveshtet and th associated opertions and maintenae for ulpgpaing exs_t blck stemnt to an itmediate service level This surprsing result dicates hat loc nanf major aspe of the back-log in urba inftucture nd services may be feaible. Such a policy would, howeve, reque iportnt adjustments in the sucture of local govem t finance WLAs wi need to pool thi re and ao have access to RSC revenues. In additio, u chges for the conumpionof seice Wi need to be broadened. Fmally, the whe municipaliesw need to rely more heavily on borowing and either inese teir property and train accoumt taxes or reduce, i reld tm, the existing ls of capital and crt e inwhite communities. iTese adjustments would enble WLAs to finance capital costs and posibly a portion of O&M of BLAs tbrougb direct trsfers whie user cwges would cover the remng cons costs. The potential for such izontal cing is one of the op availabe for finacig the back-log in serces and for pwrvn the fiscal base of the unified cities. Tbe effidency and equity implicadons of adopting this financing strategy are discussed in Chapter S. 3.3 1Lc financing of the back-log in urban services will howeve have an impot impact on the macro economy. Policy makers will therefore need to ensure that local financg strategies are conistent with macro stability, exteral bonowing capacity sad othr invesment priorities at the nationa level. The current budgetary regaons tiha constrain the growth of local goverment expdiues may be an effectve policy tool for ensug that local government finacing sratgies are conistent with national fisca costaints. Investment Profiles: Impact on Loca Fical Bases 3.4 Various investment profiles have been esfimat for the myor m itan areas of South Africa.' The profies include cost esmates for: ( a) upgradin of exitng squatter clii anaysis below is bad on investui_s cost e_t fr th Witwaterstand, PB, and D1ur aoly. On the basis of these etme, iveszu costs for Pria and Cap Town bae bees extrapolated using weighted per capita cosas of deliverig services to the ote metmopolten ara - 13 - and fonnal commIt bs; ) the deieopme of suitably located vacant land for the suply of low and modeat income households; and (c) the expanion of bulk Wnftuc- toe systems to elimiate exstg deficiecies as wel as meet the demand gnerated by the proposed upgrading and deveopnmen of new sites These nvestmets cove waters eletriit, sanitation, solid waste, and municipa roads and are only a sub-set of what are curetl considered 1=1 public goods.7 In addition, the profiles have been estmated for thre alternative (nnerg)standards. 3.5 The cost estmates of the back-log for the four metropolitan areas are summarized in Table 3.1. As a first ait is assumed that the capital costs ae financed in one year using only the reveue base of the WLAs and RSCs. To understand the impact of such a fiscal shock, the costs are compared with the country's annual GDP) and the annual fiscal base of the four cities. These calculations reveal clearly the extet of the back-log. Depeding on the engineering tandards chosen, capital investments alone represent between 4.5 to 7.5 percet of one year's G3DP, or about 270 to 464 percent of the total annual Us actl cost for Pretoa nd ap Town wl be stmatd durig the ne urban missin to South "Loal functonssc as& poice, ambulance, fire protectin and coummnity hfaciities are cm cuded in e cot estimas. In addition, h inestme nees in eath and education, wic are rently pvide by centdrl govsenmat, ar al not consdtered. Tv e aenalys u a es ft h f d ealt aion wfie confinue to be fdaded cuathecuy. -14 - revenues of all RSCs and WLAs in the four meatopolin areas. ih extt of the fiscal rewourCeS rquied suggest that the cities canmot finance the ivestment needs frm local resources as a lump-sum, one yea invesetmt. Instead, it will be necessary to gduaUly phase in the ivest s by drawing local cpital market. 3.6 As an example of phased investment, a second scenario was caculated auming th the capital qpendiu are implemented in equa isllmts over fve yea The ewise assums a 5 percent rel iest re and a rpayment period of 15 yea. As in te one year exerse,t Investments are also finond frm the reve base of WLAs and RSCs whie cosumption charges ae recovered trough user charges levied on benefrs TIhe Mprofile of pcipal and inest payments for the caial invesm and peratio nd man is shown in Annex 1. In this scenario, the payments wi reach a maxdmum by the sit year of the inestment program. 3.7 As shown in lWe 3.2, by the sixth year of the proram the intes and princip paymnt for the minimum (or ) sndard inesten prfi wi represent about 45 percent of curent revue of the cities combined' and over 68 pet for the high sindar . In oe wrds, to finance the intermediae sandard of serViWLA and RSC r u ll need tD increase by aofidmatly 7 pet amually in a tms for si years to pay for the principal and Interest during the duratiom of the loan. During this period all other enitu are asumed to remain constonL To finance the bigh standard, revenues Wi need to gow at a rate of about 10 pert per year in real terms. Tne tet of the adjustet i evident by the fat t over the last five years revenues of the four metropolitn areas have, on average, i sed by only 2 percent per annum In real terms. As a ult of h ammptis =ndsdying t O&M costs, ft diffm_ betwe BASAC d EMEDIATE dard is ml -15- Table 3.1: One-year InvesXmn Program for an Metr Arear. CaBp Costs _______I___ _____f Total lim_ (Ru) Urading 1,494.64 2,454.96 7,494.83 New Sites 2950.72 3,910.26 5,016.72 Sub Total 4,445.36 6,365.22 12,511.56 Bulk 6,844.91 6,844.91 6,844.91 Total 11,290.27 13,210.13 1936.47 % of GDP. Upgading 0.78 1.22 3.03 NeW Sites 1.04 1.42 1.88 Sub-Total 1.82 2.63 4.91 Bulk 2.61 2.61 2.61 Total 4.43 5.24 7.52 % of Ee (WLA R&RSC) Upgmading 29.52 45.83 114.25 NeW Sites 39.14 53.36 70.86 Sub-Total 68.67 99.19 185.11 Bulk 98.33 98.33 98.33 Total 167.00 197.52 283.44 % of Revenues (WLA & RSC) Upgrading 48.40 75.13 187.32 New Sites 64.18 87.49 116.17 Sub-Total 112.58 162.63 303.49 Bulk 161.22 161.22 161.22 Total 273.80 323.85 464.71 - 16 - T'able 3.2: 41nandn Chage: ve-year 1nvs_ent program for the Metro Areas Prncpal and Interest In Year Sbi Rand Miiom UpWadn 293.46 359.26 1,096.81 Now Sies 579.35 572.24 734.16 Sub-Tow 872.81 931.50 1,830.97 Bulk 1,001.70 1,001.70 1,001.70 Total 1,874.51 19933.20 2,832.67 % 'Of ER11 (WLA R SC) UpgWdg 5.80 6.71 16.72 New Sites 7.69 7.81 10.37 Sub-Total 13.48 14.52 27.09 Bulk 14.39 14.39 14.39 Total 27.87 28.91 41.48 % of Reveuu (WLA & RSC) Upgradig 9.50 11.00 27.41 New Sites 12.60 12.80 17.00 Sub-Total 22.10 23.80 44.41 Bulk 23.59 23.59 23.59 Total 45.70 47.39 68.01 FOOTNOTES: (a) lnolu O&U cost. Ta p.c of i"smamt camt =ay for B SIc md pwmt for INTEtMEDIATE mid FUI.. Sme IplatIon 3.5 Sevea isues rlva for fte desig of urba fiscal pocies are evident from is preliminay analysis. Pdmary ongt these are (i) e need for further renemen of the investment estmates; i the imprnce of accssing capital markets by local gnmets and (M) te potentia for local govnment fincing of the back-log. 3.6 Furter Work. Te fgures repted In Tabes 3.1 and 3.2 are ues of the potnal cost of the back-log at the metitan levl Not all uan centers have bee included and only a sub-set of what are considered local goods are included in the cost pro- files. The need to exed this work to cover all ofthe omjor uran areas and al local goods - 17- is evfiden Without a more acocat estmate of the totl cost of financing the back-log, developing an approprate fiscal sttegy will be diMffcult. 3.7 In adton, to assess the robuste of the figures, the asumptions behind e calculins, such as ppuaon comt, gowth raft, and per unit costs, ueed to be tsted. TSe uncertainty inheret in many of te assumption however suggest that contng ie - the deign of ay fiscal stategy may be necessry. For aple, durig the l ion of th investments poicy makers may nieed to pior ex diur-ie. ascerin in advnce which invstments can be ddayed if there is a short fall in availble finance-or addiiona fisa resourc that may be tapped at a so notce. Whete the such fexiiy can be aheved with only local financing or rque central assistan addreed in Chapt 5. 3.8 CapItl Make The cost estmates legrly suggest that ithout access to capal markets, deit directy or through the iaton of other t of governmnt, it Wll be dificltfor the cities to bear the pimay burden for financing the back-log in infiastcre and services. In ohr words, whie it may be difficult for the local govement fisa base tD bob the sie of tbe back-log over a short period, capital markets may be better paced to assist in smoothening the fiscal shock. 3.9 Preliminay caclatio show that If a five year inesmet prgam is imlemented, by the sxh year t stock of toa local government debt wi incrase, raive to 1993 gures, by 170 peroent if the minimum stndard is adopted, 199 for the in Iae, and b over 280 perent if the ful level is adopted. These fgures assume that over this period borrwins un oly for the purposes of financing fte bak-log as defined above. From a national perspective, this level of borrowing implies that by the sixth year of the =pam the investment in local goods will have absorbed 29 to 50 percent of gross nana savings assuming tha there is no growth in the savings rate reative to 1993 figures. 3.10 To what etent can capit marke in South Africa meet such finacng needs, what are the macro implcations of uch bornowing , and what financig stategies should be pusued by the cenr and local govements to faciitate the access to capital markets-a crical issues that will affect the desig of fiscal polides. It can be argued that the cost of borrowing for ue mgam cites may increase suCIetly to warrant an inteumedia- ion by te central gover On the other band, this increase may be the price paid for ensuing the indeendence of the cides and, hence, a great accountability to local constituencs. Any direct borrowing by the cities will, however, need to be implemented under a strict prudential famewk to ensure that the market or local govenments do aot fly assme that, in the fia anlysis, cental governmt w implitly back all local govnment bonowing. Otherwise, inefficient spending by m lities could have poteal mao mic co unces as the central or regional govermment inherits the growing deficits of local authorties. 3.11 On the other band South Africa already has an active and deep capitl market in which local governments are strong partcipants. In addition, preliminary figures suggest tt local governments are not heavily indebted. Data from the Reserve Bank suggest that local - 18 w government across the ion bave a total of S billion rands as liquid resev-a base that may be leveraged to access capl markets he issues revolvig around the access to capi markets by local govents will form one of the areas of investigaton of the fute World Bank Urban Sson tD South Africa 3.12 Local Finacng. Tle are two prmay sou of finance at the local level: revenue Increases and expenditure prioriization. The discson has so far focused an quantifyn the ext of the back-log and suggesting the levls of increas that will be reqrd in revues to sustain such investments. Equally imp ortant, howev, wi be the abiity of the white cities to cut back on edfting apenditure levels and sift resomurces towards the black communities.9 As Table 3.2 suggests, a 6 pct de e inexs Iustand over six years would prvide the addii resources necessay for fiancing the intrmediate lev of Łinestm at curt levels of axatio The feaiility of adping this optin by itsef r in comunction wih increases in revenes can only be asetained by a caeful rview of the existig exenditure patts of WLAs. 3.13 Secody, whle a *'stndad appra can be quite usefu for ascraning the cost of service provision, the crucial isse from an economic view point is the ability of hoel to exps hdir prefenc and thdr wllingness opay for the differt levels of sevc. n this context, ep e locl ents are a fundameal prerquisite for allowing community preferences to guide tdeb on deivery stadards and creating perhaps a fiscally more realisc approach to the deivery of ptibic services. Wihout suc a particioy tapproach eabityto buid institothatpromote publc a tabit cannot be fosred. Equaly Important, without tie appropet govenace sltucture, local governmens wil not be able to get acces to property tas and user charges from fte direct beneficiaris of the investments. 3.14 The third element that will affect the potential for local financing is the asbiity of local governments to unbdle' the investmnet package and finance srate cmponents. As Table 3.2 suwggests, capial costs and operaton and maintenance for upgading selements even to the i tediat level is affodble at the loca level Under the ampion at the investmes for upgrading the setdements are implemented over a five yea period with a fiften year financing option, WLA and RSC revenues need to incrase by about 1.5 pert annually for six years to pay for the principal and interest of th capital costs and operation and matece. If the investment program is phased over a longe periodthe ability of local goverments to fimce the capital investments and operAtions and manteace is e moe evident. A compaison of a 5 and 8 yea inestmt progm is shown in Table 3.3. The c sal t show that for a eight year progm, the annul rate of mnrease in revenues required to finance the upgrding, in savices is less than one percent for both the basic and termediate level of standard. In genal, the longer the invesment period, te gater be the ability of local budgets and capi market to abso the incrementl cost. Whether 9In gene , th beat wy to soimb a abock is to bave as mwy dogmes of a4tj-um as possible; ouly in specia mame wil it be opimal to adjus by Iholding some inrabume fixed at pm- shok levels ApplA to ti cont4t Ns genis pdndp soggess th IA my find it desibl no zdy to dmp ta leyel but aso to limt thni ovw expenditr in m c ses -19- pressures and to needs of dse who bave been deprved of basi sevies wm permitsuch phasg remains to be se. Table 3.3: Anual Iacre in Net Jncoe Required to Covrn Debt Repqayme Gahdihg 0&M sgur ies %) 5 Yeaw Upgrading 1.23 1.50 4.33 Now Sites 2.38 2.35 2.98 Sub-Total 3.51 3.72 6.88 Bulk 3.98 3.98 3.98 Totl 7.02 7.21 10.OO 8 Yea Progm Upgradg 0.77 0.94 2.69 New Site 1.48 1.46 1.85 Sub-Total 2.18 2.31 4.24 Bulk 2.47 2.47 2.47 Total 4.33 4.45 6.14 impact At the Household Leve An Example From Cent Wks 3.15 Amila conlusion abou tbe affordabty of anupgding p am at he loca level is evident from the data an Central Wits. Two financing aps explored for this urban area. For both it was assmed that capt investme for upgading and for the dvelopment of new sites may be lementd wi e bk invem ts and phd in over a five year period'. In the first strategy, water and electicity cost are financed through increases In tdig account surpluses and mi the second, ivestmt cos for sanitaton, roads, drainage and refuse colecion ae financed through increases in property tas. The objectv of this dcse is to assess at th houshod level rdaer t at an ag te level the impac of financing the back-log from the fiscal bases of WLAL "As ai lb. prvis wwiuu,tds Iilpss adet pamut ildi O&M i cwh a maiu in tlb. sixlh yar of tl fi_acn y_grm A reirt of * WLA will tl_efore ann pFogre sIv mourn in eaclty ad w_ bils ad proprty taxs wth dk. ximm payout bei NacWed six yoars aftder lb. i mt pram ba bow iMt -20- 3.16 Table 3.4 shows the Icmae in revenues requd from 1tg accunt supleto fiancethe upgrading and nw sites invstments for water and elticty in the Cental. Witwatefad area As the table hows, to fi tese costsluding capital inst and O&M, the electricity bill of a rent In tie WLAs wm increase by the sixth year, retive to the 19919 tariff etmates, by 0S1 to 7 peret for decticity and by 4 to 10 perent for water. F Joha burg mu, for example, it mean tat the surplus from watr and eleity wM need to be ised by 7 percent by yesix for he basic lnvatmet in upgrding and new si, by 18 percent for the Imediate lv and by 43 percntfor the full service. These figues agges tht while the fU svice lvd lmay be difficult to finance, if the investmet can be separted Into Idividual c onents (for example, upgrding and new sites versus bulk Invest ment) It may be possble to finance the basic and evea he Iterdt levels from local resources. Table 3.4: Real hu Isen Per CapW Det y and Water ill for Central Wit ~gmes n%) ______________ Upgvaf cwg Cusad Now No. El - I-II. Basic 0.06 0.51 IntermedIate 0.52 3.42 PulB 3.35 6.66 Water Basic 0.51 4.4 In temediate 0.51 4A Full 5.30 9.6 3.17 The oonclusion is the same if one estmates the incras required in property taxes to finance the up-grading Inestments for sanion, roads, draimge, and refuse collect Inleed, calcuations from the Central Wits area suggest that if RSC revenues at curent tax evels are avaible to asst in the finaidng of these specific capit Inv ents, no I in pperty aes will be requred to implement up to the intemediate levl of upgading. Again access to capital markets to phase in the investment woud be critical. Impact at the Macro Level 3.18 In addito to its impat an capital market, as sugest earlier, the fining of the back-log in urban services has the potential of affecing the govenment's ovail budget deficit and the country's baace of payment. Thee inkages become all the more -21 ' Importat one conas tha urbn srvic are only one catgoy of ezpe d wa wfll require immedit fi g. Ther are also preng neh in the ar of h g. health and eduafion, for mple. Gven te potentil impact tat get pubLiU peding will han t national cavig POOL g daed budget defcit, and balance of paymns, the finncing of the udm back-log huuld not be se in isolato of the ovea penditrneeds of the country. It wil be imota to nre, therefore, hat aordabit at fte m led s oistent WIth macro economic constinb. 3.19 Work on macro coonomic poides undertakn at the World Bank indica that o the perod 1994-20=5, totl cumulative govaenme capital invesmt could be as high as 33.2 biion asm at I85 prices if he e my conns to grow at its hoically low raes, and 71.7 billi Rands i ht rates are acevd toug sly-enbancing poli Spread e tis perio ths fgres aft equivalent ta 1.8 prct and 3.3 perct of annual GDP re These "vestment fures refbet wbat i sustina at the macro vel and conste with a cean leve of fiscl deficit and foreP debt.' Tbe 3.5: Urbn Sevis as a PFceatag of Total Pub- e ____ r. __ 1, 5-W I-- Yeo 8 Yyer S Year S Yewr S Y Yea Low Growth 1.7 33.0 21.0 40.0 25.0 58.0 36.0 High Growth 3.2 15.0 9.7 18.0 11.0 27.0 16.0 -:m s in 1992 pw O* Ozil investmns we Include 3.20 Tale 3.5 shows the urban investment program for the four meopoitan areas in relation to the overa capal investment program sunable at fte macro levelW. nder the low growth scenario, for emple, the inmediae levd of urban invement could account for 25-40 percent of the total public invmt that is sustinable at the macro leveL For the 9See Woid ak Disusi Papetr Sut Afzicv Eooman Pofon and Polcie, Noveabr 24, 1993 for a detbad nai of th unptn uneying tn callto of tzm figus PFo th papou of ts mpou, th es we bui usd for iMluudtaive puoses ony. l°Ths fies an for te for m poidUtna asea oy and do nofet th tota 4ag in th ura scor. Calculations for te ushm as a who woud ae to Icde esimte for a vaiety of addioal aetnus (eg. co_mity filWe poice, ad ambuan) nd a4justbu for olatio figures. figus epoftd in Tabs 3.5, tefim r_ Ih potenti"a Imp of uanisnvsme o an th -22- high growft scenario, the f4ures are between 11-18 percent of total public Ivestme These rou calculations ugget wveralmplcto. Firs, affoaity at the micdpal lvel does not imply that at the macro levd the naioF can easily nce the back-log in urban sevices without maor tradoffs in other areas. Determining Inter-sectorat pioity for pubL;c inestnent is an impornt and urgent task ing policy makers in South AfiricL Seoond, economc realities suggest strongly that South Africa my not be able to meet the back-log in sevices over a short time span. Third, without growth enhancing poicies, South Africa wM be srely constained ilk Its abbit tD meet the demands for baic public services. Fay, the potetial for Investments by subational gv ts o pass te maimum sstinable at the macro level, suests tha macro econmi cotroM by central authorits over local govemnt budget may be critical durig both the tnsiton and the long-n. it may be advsbl to continue the current poliy whereby th ceal govemnme approve the overall budgetary growth of eapen DitPrs by local govnment" . This policy prov4des a good balance bween alowing the local govenments sufficiet autonomy to set their own budge prioies wiin an overl ewnvlpe consistent it mamic goals. 3.21 Tbe desrbty of local financg of the vestment back-log wil be diascussod in 5. s chpt bas a the Si of dte back-log and on assess- the potial fiscal shock that may result frm financing the inestmt program at the local level. The cac ism lealy sbow that in terms of the fiscal base of the cities, the bk-log represts a subsial percentagey of exing es and revenueL However, with access to capital market, rvenues from the RSC, and some nCreases in aing account ad property xes, WLAs may be able to rapidly finance a program of upgading black settlemets. This potential is fither st thened if the resources are pooed across WLAs wi m litn areas. In the long run, a ste wbic promotes (i) commu=ty particpantin the d y of services, ) n ion ofcurent exp tres in t WLAs and BLAs (Jiii payment of user charges and property-es from the back-community (iv) local tax Increases in WLAs may permit the cities to fiAe even the bulk investments soley with local resources. This is an imptant condusion giv that the economy also faces back-logs in housing, heal and education and which may be stonger contender for cental resouces. Affordabiity at the local level, however, wil need to be made ondstent with affordability at the macro level. Even as local govements rationaize their fiscal base and begi financing the back-log, central auorities will have to ensure that macro stability is mantained and that pubLic investment at the agate level is susinable. 11Cqi.mntiypolices coud includ comro over tde us of loct govemmuim duficits or lewis of deb 2Au equally impora cadition is th need to redamw t fisl and admnittve bou_aie of the ciies. This point is addre in Chqts 4 ad S. -23- Chapter 4:a Trends: Red and Fical 4.1 This chapter analyses e Impact of two imotant tes of dece ization on the cities of South Africa. The frst, aeady wl in pWrre is thedent ll of is inluci the stctue of some of the cities. mhe second, and still uncertain, is the outme of the nation debate on fsca d eetazationBoth the fms Of de zaon have re and fisc lines which will bear on the anysis of financial opns in Chate 5 and 6. 4.2 The dcapter first du the dynmics Of hoUsehld and firm mobit i Centrl Wits and Cape Town. Premnay data from these two un areas weal a gy intated metropoltn labor makt wi bulk of the forma employmet located in the core dities. Hower, in rct year tere bas bee a npid decentiza of jobs and, in the case of Central Wis, some moement of black hshods twar e C)D. T jobs are, however, not moving twards the twnshis but rate into srouig whie ms. in addition, it is eptd that in the fore future t townips wI continue to be the ple of ridnce for the msjority of the black urba popula Ie drawing of narrow boundaies to create nw municpalities wod, there, prese the inequties and spioves that caacteiz the urba areas of South Afi Co enly, the opto of ating wider, metropoitn boundaries as the base for new l go ermen stcur may need to be consdered. w 'E E !iE3gElg -24- 4.3 The dicuso then focuses on some of the salient feaur of the fiscal decen- tralizaion debate as it relates to the f:nancial system of the cities. The analysis sugges that a rapid devoludon of new fiscal reponsilities o the cidies should be avokied. Existg levels of central transfer may need to be guaate for the some tme to come and if such transfers are to be reducd, a phased approach may be preferable. Finaly, it suggeded that there may be sog economic reasons for keepiAg intact the c regional boundaies of the PWV. Urban Sructe ad LctolP Dynamics 4.4 Te stuctuof nme ian aras I -SouthAfcais Araterir i; by two fo of froen o.egrhic and racial. e former-jursdiconal fragmenaton-has'resuted in whbit m p es expandng beyond old core cities into sWrou g minar centers and ped-ua areas. An important derminant of tNiS epaon has been the naraace of natmiion. In contrast, fte racil ftion was a deliberate, political decision to create dormitory towns some distance from the wbite ceter 4.5 n pte of this a no he different judsdictions bave a bighly integrated ladbr market In th Centrl Wits aea, for m , Jog in 1990 acc ted for 80 percent of e tal employment of J nng and its nding white m i (Sadt, Roodepoort, and Randburg). Cape Town CBD, to t anoter example, in 1990 accoted for 70 perct of te empoyment of the greaer metro area lb gead, the data on emploment revea a monocentc urb structure. 4.6 WhWle data in this regard i sparse and often outdated," ie dynamics of employment location suggest that a more mulicentered emnployment pattern may be enmging. For eample, the Central Wits area is expeiencing a strong trend of decentr l of employ- ment from the central city to surrounding muncipalis. This trend cuts across all secrs- manufactrinbg, trade and services. over the 1985-1990 period, the total number of jobs in andbg increased-albeit frm a smal bas- by about 14%, followed by Sandton (6.4%). Roodepoor (5.3%) and Joh g aoy 1.3 percent. Simiar changes are also occuing in the Cape Town region were ma igjobs are ming to the esst in the Belivgk area and also toards the North. In both Cape Town and Jonurg, however, the movement of the fmal sector jobs has not been twards t eedsdng blac commuktes. 4.7 In the case of Johanneug, te has also been an exodus of low and middle income white resdents frm the centra cty to the Northern suburbs. About 80 percent of the high-rise reidenftial buildi in the central city are now occupied by new black immigran coming from various ftown, homdeads and ven other countries. According to one 13Data on to dynamic of lotond decsi of households and thg chagi rol of ho n l sector, and the evol of lnd imiets woud provide vluale inm for he dsig of housig, lnd and fisd poblicie T condy volvn atm of to cities suggspt ta it magy be use to stablish a monitodng ut for gptering stat on key apects of the uran eo_OMy at regua ntervals. is sue hs been mised by Ba Missions wit sveal in South Afica -25- estime, ther are about 450O new Immlgmnts lving In the flats in Cental JoI bug. Along wth the dectrization of jobs the movement of households has led to a fnmntal cbange in the r of Jo eb_ g's CED. With over 14000 stret vndors in the CBD aloe, JoIhebur's downim is going thoug a rapid transformafionfrom the formal financi serices and retil sectos to an incag sbare of te hmal secw economy. Table 41: Di _ 1 A ea AR 1Jolnug 84.0 80.0 1.3 Randburg 3.1 5.3 13.9 Roodepoort 4.3 4.9 5.3 Sandton 7.8 9.4 6.4 Johannesburg 84.0 81.0 0.5 Randburg 1.6 3.0 15.4 Roodepoort 7.4 8.6 4.3 Sandton 6.9 7.3 2.5 Offc Johannesburg 86.4 81.0 1.9 I Randbg 3.5 5.6 13.4 Roodepoort 1.8 2.4 4.3 Sandton 8.3 11.0 9.2 Rtetail Johanesburg 77.7 75.2 0.9 Randburg 7.0 8.1 4.7 Roodepoort 8.3 9.4 4.0 Sandton 6.9 7.4 2.9 So0c: Ma 93AM~t 141 is mpoutt to not tht te ip ares edte locatioal chag of houhod ad fims took plae duting a peodt d11 k r slatihu wo tm lega bndig. It woul, th ut be swobUisiDg if aUys ta8 1oy sbow td the rt of chas ha contnd to .26- ImplDaSlu for Redrawing M cl Boudarles 4.8 In ftis context where the allocation of popuion and busnes activit over the urban ar is in a stae of flux, it will be rtbical tat any sategy db for fin wban serices does not distt the loon chocs fing individuals and firms. u A policy of g cities and adjacet ownships over a narw boudary for the purposes of fiancing the back-log In svices may result in such inece . There is a high risk ta the fised burden oan ay one Indid jursdcton wM create Icn for tax-paiying househods and fims to escape fm the tg juisditons. Moe , low-Incoe bhueolds may be atacted to the areas offering tie highest lael of rasfer paymens or public seices for tipoor. Because the ineiv do not correspond to true eonondc benefits and costs, they cause mislloc of reso es and economic Ine n addi- tion, they may also I ct adversdy on equity. T e Is no obvio reao why tax payers in the sm income bracket should bave to bear higher fiscal burdens depending oan the ple of reidence; converey, twe is no reason why the beneft prvided to te poor in some loaliis sould be more gen s tan the beneft prvid to the poor in other ars. 4.9 To illustrae t problem with-narrow boundaries, an execise was undertkn to assess ft poteial fisca burde of a 'towa4wingn prgram in the Cental Wits area For the purposes of iustraion, various DAs wer mere with their aqacent white muni li- is In this exercise, the inheritd defici of the BLAs are financed by prpey increases in WVLA Due to he larg variat in thes deficits, the mergers will result in an increase in property tax rates of about 9.3 percent in Randburg and Sandton and 40 peent in Jobhnes- burg. On the oher hand, in a combnd meIoolitan area the propr tax increas would be aprimatey 32 percent' "53hlCl a polic does not imply tha fisa nci houd o be used to aft te laoiai decisios of households and fins. Mme pros and s of usng fiscd polies for sue purposes wM be addreed in fAt woik an lad lame. What is impota in do conex of ts pae is tat fa strae sould not he inavertt ad unedo d impa on to locatio of houseolds md finnL 1S~ xeriseis only indicativ of the potentW ianda impact of the malgamdatpion prcess Mm burden on poperty tues nd tadig omta in WAs wi be hWg nd th diffenc betwe th muiiplies gratw if past debt burde= of the BLIAs d the backog in servicesa wa ls finacd fim loca reso lbo impact on locdial dioo wiM o be high. It is possi tat if servic levels m similar osi.u tax diffea;ntial wm ha cpitalized ino lad paces. ia differtab uni, howve, to bh capilid compeey io te price of lud nd woWd thrfr si povide sm cope for househol vovunt to lowr taed uIn geneal so cpitalizon iv lad t changes in land pce wc wM ha a navmpaction eqty with mlanownes hing capi gi ad oths lsss Ii na wla outcome is ucetain. -27- Tabl 4.2: Fial ImpU of Megng WLA's Wi BLA's 1I the Central Witesnd and iang BLA Deiits Wit Property ates bi WIA 1992193 ?ipuly Tax Rate i WLA's bwor uUW ?kputy Tax Rdm ba (tnm w Fe pu~te WLA's ibm uw ant KADdI * Ium_uttK ILLA b AMA= an_ _ R Alexandra 2.4 3.8 2.6 4.1 9.3 Sandton/Randburg 12.0 1.3 2.6 1.4 2.7 9.3 Dlem/dwSowet o Johllbrg 200.3 2.1 3.8 3.0 5.3 39.6 Dobsonville 13.7 3.1 4.4 3.8 5.4 20.4 RooW M Area 226.0 2.1 3.7 2.7 4.9 32.4 4.10 he 1loat t ofemploymentf al suggest that he forMal stoiIs probably n shiftng towards the townships. While thee is some indication tha fth fomal rtail sctor is exanding in exisftng 1LAs, it is liloy that most of the busis and commercil tax bases may remain outside the boundaries of these townships. Possible reasons inblude the advantag, eoomies of agIomeaIokn and scale and better scuriy ta is alable in WLAs. In effect, the past pliies of apartheid zoning and invesmts may bave Iocked-in an advantage which wil change orly slowly wift sustained pubic and, subse- qet, prvate investment directed scficaly at the twships. 4.11 In additon, the de zao trends also indice that a majority of the blakc workers in the formal seor wM coiu to contriute to the fiscal base of the WLAs without having access tO such rnues for fiacing baic seices in tidr jursdicin This problem may remain unresolved even with the twinig of WIAs and adjacent twnmships. While the diminati of resdeal rtaints will almost certainly lead a portion of the black populton to move doser to the urban cents or to adjacent undeveloped land, zoning policies, lack of access to cpital, and land prices may limit such possibiles. EVe with policy changes to facilitate household mobility, it is exected the buk of the black-community wil conainue to reside in municipalis different from their place of employment. Fially, the drawing of narrow municipal boundaries will not overcome te potential spilovers among juisdictons in the wban areas. LI~I -29- serious coideios are also being giv to incorport parts of the PWV into adjacent egions. The objecte is to segthn the fisa capay of these new regions. e poteti for spillovs of cost and benefits across jurisdictions if sch a sate is aopted may be suffiiently strng to affect te locaona dcisions of household and firms in tis greater metropolitan aea In addition, it would exacebate te exporting of ax burdens that is already taig place as, for e le, in the case of the payroll and twver ta acrs the different RSC boundaries.'7 lmplcatio for the Desd of A FcW Stratey 4.16 Th dependen of at BAs on centrdausfrs for te finang of opeion and maintace costs uggets ony ta ay finaing saey for the South African cides will, in the short to medium run, ed to mntan such ctal asae In this contex, mating cities and wnsbips wi not obviate the need for centa asfers, indeed, a simultaneous reducdon of central flows and the _lmttion of a public investment progm to finance the back-log may cat a rapid emerec of fi stress on local govenmens. Tis cation is equally appliable to the deb aton fiscal dcnrlization: cities may not be able to abso a raid devolution of ependtre on ities and finance th curt back-log of basc urban servic at te sin tm. Soud ay plans for reducing the level of central transf be contemplated in the fie, it would be important to implent them in a phased ad grdual manner. hs process would need to include a review of crrnt pblc eeis at the local level and a carefu assessment of the fsa capacit of the indidual ciies. 4.17 ih genal the discussion of dependence of BLA on central tasfers and the potetal for rapid fiscal decentUliin raises two importat points. Frst, it suggests the need for oecly squeing and dovwe-tailing the merging of the cies with ay plans for reducing the flows of curent central tasfes and devolving addiinal penditue r ies to the uban areas. Second, gien t diffclt of a rately ynonizing the sequeing there is a high potential that a mismatch of reveue and expenditue sponsibilit at the local leve wi emerge ridly. To guard agnst such outcomes, there may be a need to devole to the metropolitan areas a revenue base-e.g. a ur g an the personimcome tax-capable of absorbing such fiscal shoces or instead to guarante a fixed level of tansf for a definite period. 4.18 Four spedfic suggedons emerge from this dicsion. First during a trani period-defined between the to five years-the exising level of trafers may need to be maintained in red terms to assist the cidies in their process of uurig. Second, during I7h6bb_M of Og. fam, for example, whwo i ne fml sect mii tCh Jd_ am re _onbutin to the tax bass of C l Wds R5C. Expoiug of tax buzs* wl btsify in the ft as locanl dynmics ineas and if the PWV is jwdaictimuy fi_amented '$A discssio ppr o fina rlato in South Afrm ics cuny bng peped by the Dan Ths aeclio trefore onunm som, of th nin pins reeat for th _icusinan loca govermt finane -30- dh sma peiod, it may be prefra n to devolve new pendite responsWibt oh cities yin te field of eduat and healh Third, as pat of isuring against the dangers of fiscal mismatch and addressing the uncetaties of te cosof fth back-log, a ceain lv of cetal trnsfes may need to be allocated to a non-replenisable munipl fund as descrWie ntea chapter. Fialy, it may be p ble lae te PWV as one economic and rve a. 4.19 in sum, the dawing of arow munipal boundaries vJll rsut in unequa burden sharg in the financing of udr servies. The sbsqe impa on t locational deisions of households and fims may be both inffice and ineqtable. Even if inity the dAffeces in the fisa caciy between munilie is not tha great, the current location damics of housebods and firms ndicate the fisca bases of many of the WLks ane not sr. Ceral and regional fiscal tasfer would evenaly be r ed compensate for a exsbng and grwing fsl differences. Given th uertaty of the *mofho ionaldebal onflsa t is ad den whedia a wliae an cetral ad regiona tasfe I a predeble opton Drawin lre boudatie and establis a finaci arang t tat pools ath resources acrs sveral WLA may provide the cities wih a better fiscldcpat to meet te finfi needs of the backlog. -31 - Chapter 5: EZlements of A Stratey. The Transition 5.1 The princpal issue in the short run is the finmcing of the back-lor of urban infr cture and services in the black communty. It is anficipad that duing this perod oa governments wil needo underake an unusuallY lrge amount of public invustlent ove a short period without access to sufficient propety aes and user cwges from the beiciaries Financing will therefore have to oc through al dw means with an eement of redistibution implicit in the strty. The xtent of the reisbutin s, however, unceran. The fiscal tatives dicssed below are bed oeation that dung this period load areas wi not Inherit new exp ie rponslii or have accs to newly devolved sources of fne Insted, the focs wM be on crang new reveme shg aft gents fom existing rsal bases of the WLAs and the RSCs or the center 5.2 in ths contex, two altern revenue-sharig mechanisms are being considered. The first opto is to finmce the back-log of 1ocal goods with trsfers from pper-tier tax bases. The second is to use some combinaton of local revenue sources. In the former case, the tras would be time-bound, pehaps tree to five year or en less, but lwing enough tme forfte ado iittwe merger of the cities to be completed and the vestment inidted. The seMond f pipn could inude the folwing altraives: (1) a sharing of RSC revenes across v Anetpoit area; Cu) pooig Of a porion of local rvenu-ppe a and tadiug account supluse-over a meopolit area; and (ih) horiztal trers of revues from wbite local autrifies to adjacet black townships-a 'town-twining' pgm of sor To brin out clearly the differet impliations of these police, the andysis below initally considers these opions as being mutually exclusive. Given the various constaints dicsd in the previous secton, however, a comb on of the various fislm wl ulitely be needed to fianmce the bak-log. 5.3 is apt first broadly discusses the advantages and disadvantages of using cent versus local fiacing. Pawd on specific crnria, the chapterh an the financial opions described above. Finaly, the cp coudes by proposng a fiscal ange that draws on the strength of the various optons being proposed. Central Versus Lecl Fnncing: Some Considerations 5.4 Central Fancing. Ibe auments in favor of relying on ur tier transers are several First, apartheid has been a natonal polWc logic holds that the burden of financing the back-log should not fall exclusively on local genme. Equally important, the deficit of serices and the fiscal ability to overcome this deficit dffe widy across the coumtry-it woud be ineqable t treat the fimcing of the back-log as a local problem. 5.5 These equity concerns become all the more apprt when differces in the fiscal capacity of regions and cite in Soutth Africa is n into conide . At the reional levd, for example, under the 10regon plan the per capita income differces betwe the -32- poorest and the rihest region is p a 1:6; the diffece in tax per capita colected is over 1:16. Such differences are t gificanly dii id In an atrvatve prposl for a 7-region ci o. Table S1: FIclJudicators for the W id Prepaty Tax I ffudidy Papg y fam" GOP flUMWU~~~~~ jN. O.-j _ _M age Rand 10,476 me.4 195.16 246 5.27 4.40 weet Rad 3163g 66.9 j 5.27 79 4.42 5.74 ABl WUt 10,775 157.1 261.40 j 5.53 4.75 HWM: [pI MP %oge an for 1983 ABl otde daa we 199J9 fiSume. (21 Excet or proput ut., all adie fgume ar in tUrn of per capita. DOI& a ptrn free TXMn TrUsaUr damsn May 1993 &ISiuaoa Table 5.2:. Percentage h=cems In Net Revennes Require by Year Six to Finance Bwck-log FMn an_ . 47 83 Cetuland R13 i 20 29 WesRan _ I 6. I 3 Wmlt Road It,3 a5.8 75L 9 23 ABWII. 25 j 29 j 44 Wore ay 199 Minion a 5.6 At t local lve, th diffences ar equaly impornt. For xammpl in t Witwatersrand area, whichi is interlnked throug a highy integratwd labor arkets there are im orat differece in fte per capita gros geograpic product ( a proy for per capita ice)and the per capita tax collected (rables S.1I and 5.2). Not suprisngy, fth revenue inceaesrequired to finance a progam of invesftmet that is phased in over six years is quit dfeetacross thes areas. Metropolitan difference are also reflected in the growth rates of total revenue. The average annual chang in revenue in rea terms over the las five years for Port Eliabeth is negativ while for Durban it is appoximatey 1.1 percet and for the Central Rand area it Is a healthy 4.6 per cent. The ability of differet parts of fth country to adesthe back-log thus varies substantialy suggesting tha a local soluton to fth finacing probleM may not be suitable for alN areas. -33- .7 trdly, as suggested in Chapter 4, it may be difficult for a local government acting alone to implemt policies mtended to achieve rbution of income. The differences in the financing burden and the varying adjusm s required at the local level (edth trugh loca tax increases on curent tax payers, or expenditue decreases in wht cite) may crea strog inciv for houseolds and firms to e aionDs basd on fiscdl ther than economic criteriaP . At the eteme, local areas that vndertab the ht amount of redistribution may promote both a stong inflm of poor housholds and the ft of wea reident and bus__esss-esentlaly destroying fiscal cqpacity of the jurisdic- tico. 5.8 * Finaly, in favor of ceatal tasrs s the fac that the nonal ta base is broade and more pogressve if addidona revues ar requred, especia;y to pursu r b policis, the dst nd lnequies may be le by tping into the natona base rat th the local one. For example, if the investment needs are financed through cent tax bases, t by the sith yea when all the ines have be phased in, the foiowing incase in tta mrenues wi be rqured: t% ~Minmu Inemediat Maxiu VAT PfT CIT VAT PIT CIT VAT PIT CiT Upgading 0.07 0.11 032 0.11 0.18 0.53 0.35 0.54 1.61 Ne wSims 0Q14 0.21 0.63 0.18 0.28 0.84 0.23 0.36 1.08 Bulk 0.21 0.49 1.47 0.32 0.49 1.47 0.32 0.49 1.47 Total 0.53 0.81 2.43 0.62 0.95 2.84 0.90 1.39 4.16 5.9 The cost of funacg the invesments directdy from the center wiu reyig oan caital marke would require the foUllowing annual increases in tot reues generated from the VAT5f the caital investments we im lemented, for eample, over a five year period. "Tbis argmen is a8s applicabl at tal level Mm mobt of capa ad aied workes acms noual boundaies places a caosant on abiity of cestal govermnt to pWum a polc of rediubio Ibis acnstn is geseray km wv at th cent r d eem for localties, however. 201h VAT may not be proguiv. in its inidec Mhs sowrc of rveu may, howe, pwvid a 'sod-bet' alsteve for ge_ating mrnus fom td bla* coummty for sevces if user Cge nd prpty tow re availale. -34 - (% Increases) Nb_ Ma Maximum Upgradg 0.13 0.22 0.68 New Sites 0.27 0.35 0.45 Bulk 0.62 0.62 0.62 Total 1.02 i.l9 1.75 Dzawing ill aired cental bases (VAT, PrT, CM would require cv sm inaeL Finaly, it could be argued that tme uctrn of the metropolitan areas is a naal ise wt national implieatio stakes may be too high tDo conde it primarily a local problem 5.10 Loa fEnanng. The c g are equally strong. Frst, there may be moe spe at the local lel for shifig fiscal resurces without die need for additol increases in rats-current unover aes, [c withl Ir nces d pay-rol te f int this category. These as are currently leed at a low level and are, because of aiona contl, more or less uniform acmss urban sectors-de sowpe for differeal distor- ions from tunover tax is thus lmited. In addition, the lvies are already available for .nacing cait invesm in back townsips and could easily-be dchannelled into financing the back-log in a more sysematic way. 5.11 In addition, politca changes at the local lve, especially if loca partcipation i the choice and delivey of services is encouragd, may provide the opportnity to broaden the local fiscal base by progressively increasing the amount collected through user charges and pperty taxes from the back community. More importantly, such an effort would strng- hen governance and auntability at the loca level. Thirdly, by puting die pressure oan the local budgets, incetives would be created for die raionali of sng eenditure pAtterns. Implicit in both these arguments is the a on that, at the margin, transfers from per-tier governments ay not be more effit i promoting a process of participation, accountility or budget revie at the municipality level. Fourthy, give tde fiscal resources reqired for financing exp t on education and health, items which have nationl spillover c atscs and a large redistriutive element, it seems apopri to finance local goods at the loca levl. Finay, rlying on centra transfers becuse they are subject to uncertainty, may actuy undermine local fiscal mt. Evaluating the Options: Some Criteria 5.12 To evalu clearly the tradeoffs underlying the fiscal options-central financig, RSC finang, meto-wide arran_t and town-twinning-a reative raldng of the altrnadves ""Mm1over Iuxo ae lviedat .14 pece nd payl at 35 pern -35 - has bee summaizd In Table 5.4. The iteaia chosen in abshing the rankng are autonomy, auity, efficiny and adminisaatve sibit. Each is discussed below. Table 5.3: heal Options and Soures of Reveue Fiscal option Source of Rt"eve Cen Tanfr Pesoa nm tax, corpo hom ta, value-added ta RSC T=nver nd payl tax Mero-wide Poperty tu and excis taxes on srices (waer and electicty) Town'twinalag [pepty tax and exci taxes on svices (wat and decticy) Anuoomy is defined her as th abity of th to adjust tax rates or bases. for ieynwu purposes withu being regulted by ano tir o govf rmet In this contex * EqWp issues generally bave severl Ite re s n eted in terms of n equity would imply that the abiliqt to pay should play a determiing fctor in financing plic investments. In other words, de benefci- of public Investment and those who bear the fiscal burden are different bouseholds generly differenidated by income lass In additon equity issues can also be defined in terms of differential treatmet of housholds in the same income group.2 * Effciency osidis also cover sevea dimensions. As discussed earlier, the impact of financing strategies on locatnad decisions of households and firms will be an important cnsidertion i the choice of fscal insuments. The broader the geogrphic coverage of the fiscal instruments, the smaler is the potential for impacing on locational deciss. Secondly, and interlinked with the locational decisions, is the efficiency impact of ineaing 2 aE en also be defived in tems of dobeefit piniple of taxaL in othr wod, it can be ud tdit equit is best servd if hohos pay according to t la of ueis ecivd. TIis pdncil an be applied in ios ways wi ch as aco inom das acoss wo ce. mo centraized Watrotre would gueali[y work aainst tde benefit principle 231U public finmanc tt ths distition is discumd ude th topics of vetca and lequity. Ea en be appl to te ine of serviceftmacln and ta of sevice pvv0iO. A poliy tat impos heav bwdeas ona r_ _ may u R n v eity objectives. But the dist of sevi benefits across m lasses is also ipoa It s rely td net impact of tax burden and disttion of beefits thdt ultimaty hbce or detacts fon vertiequity. Ih um is tr for horizonwtl equity: uneu svice provisin for idenc people may be pereived as uaccepta a tie prnciple of unequal taao Lb 111111 hri fSI c iPW -37- Table 5.4: Ranldngof Options Autonomy Admin. E c EuIty Location Allocation Budget CckaTransfers 4 1 1 1 7 1 RSC 3 1 2 3 7 2 Mtro-wide 2 2 2 1 2 1 Swi4nii~g 1 2 3 1 1 2 5.15 in tems oE.fb seval ifeent considerations apply. Out opto s to use reidential prope and only the lnd base as the source of additonal revnu for the metro ArrnaeDe or the twing exercise. In oter words, the tax instrment avl for ffnncing publi nestment at the loa lev Is, at the margin, the resdential prope tax rather thantes onthe c m of trading sies and the ax is on land i d of structurs. Tis option wodd in effect avoid taig a narrow base (constion of watr and )eltcity) and capita (axain of sucte) and may be as efficient as using central as (the broadest base of all). On the other hand, if taxes on businesses, building structes and tdi acoounts ae furter increased, cental trfers may become the prefered alternte. RSC levies would rank last prmarily because of dtir eliance on trnover taxes, which not ony have aading impact but are a source of double tation in conjuncdm with the VAT. But this conclusion would very much depend on the rates appled to urer tes. At present, the rates are low and the effidency losses prsumably likewie. if the levies were raised to cove even the minimm investmt pacage, hower, the required level of taxatio could become highy Ydonary. 5.16 In tem of loca1ong _ .goL *the raning prested above would change Substan- tilly. The twinning arngement would score the lowest while the cetal financing becuse of its coverage at the nationl level would be the most efficienL 'Both the meto anangement and RSC altrave would be eqully preferable to the twinng opto but inferior to any cental transfer- again the geogaphic coveage of the tax base being the detrmining facor. 5.17 l dgety efficis peraps best enbanced at the local level-municipalities direly confronting additional costs will have al the cenives tD priorii expendit better. In this contt, it may be argued that trsfers fom upper tier nmts may damen ihat nl pmce, svesn need8Ws mayqo inemasg Mtue for both busness d mdn PeMy WA& -38 - Incenve. HOWvr, ths conclusion Is no compleely sef-evideut Ceal or reona tansfer may be deigned to promote changes in local budget either on the expenditure or revenue side by maing the reamse of money conditional on these adjusments. Whether such aonditioaties kad to u i ity n tbe fws cannot be decided a piori As a result, cen and RSC flow are not nkd in Tble S.4. 5.18 Finay, utr cmsideraons suggest yet another rking. Twinning score pooly on boizontl ety derans Meto s rying o property xes, on the other band, ar prefrble on both verical and horizntal quty groulds. A compaison of the metrplitan opiom and the ceal and RSC ltnatves, howev_ , is not straigoward. If, at the marin, pen icome taxe ae used to finnc e asrs, the pog t he the income tax system would ese a high lel of equW in the financing schem. As a slt on equity pounds cetral finncing would be more eqile than RSC fundg and peraps at par Ithe use of resdential property tes. Howee, th favoble inng of the cetr opton would be lost if at the margin, the VAT was used to fice the back-log. Both te VAT and tunver ta may be relaively ressiveHoweve, gi t bte VAT base is boa and tha the fineses inates fequire would be smlethe centrdal ption is perhap more eqmuibl tha fth RSC option 5.19 In t fiSnl alnysis the fisc opti chosen w deend on t weights atachd to effidency, equi, aunomy and admi e nsidny giv that e vaious financing schemes have differt stngt, a combinadt of statege and fisca instruments may be more effective ta any one altnative. Wiin these broad guidei the fOllwing conclusions sem relvan for the debate on South African cities. 5.20 ToWI-Twilng. This odon as a fiscal scbeme may be costy on botoi onal and equty grounds. The potenial impact of these effects are srong enough to ou oher coderan As a manaet a mnt, howeve, the twinning Option may be a sound pmposaL The administ e strength of wbite municilites can be tapped for the technical and o ional aspects for deliveng Is. n addition, a twimed structure would preserve the advantages of smaller-sized municipaliies by keeping govemet closer to local onstituenes. It would also allow local govaments the feimbil of promotig smaller formal or info reestations within the munipal structures. The qulstion is, therer, what type of fiscl set-up could sWport a tw g aanent? 5.21 RSC and Metro-wide. One opton for oting the twinning arngemet is to draw upon RSC levit. Turnv and payroll taxes could be colectel across a mn boundary and tansferred back to the twinned municipe using peic criteria. hese. could include, for eample, a combinai of fiscal need and effort indicators. Or altern ey, the twns could be released ai the implementation of investment programs to ugade the black commuiti A second opto would be to collect a portin of the proptY-es and tading account rplus over a m epolitan boundary and again rdistribuig back to the municipalites based on a set of indicator -39- 5.22 Both the RSC and meto-wide options provide a meopolitan boundary to minimize any locational distotion and intunalize th exporting of tax-burden as a result of labor and product market linkages. Equity is also bet seved as te burden of financing urban sevices is evey distbuted across the metopoitan area Finally, accessing RSC levies and property ta over a opolitan area seves two puposes Fuist, trover and payro taxes offer an altemative way of derivg reeues from fiue beneficiaries of public invst- ment Scond, the use of propety ae wod allow local to purse reditrbtiv polcies 5.23 For either RSC and metro-wide opion tD provide sufficient revenues, however, turnover ax and trading acout wil need to be increased quite a bit. As explained before, at igh rats both ese somres of es are highly ffident To limit the need for such increases it would be prefeble to broden te reveue base by merging both these options: allow a metropolitan access to both RSC levies and a share of property tx. Togethe the tases would provide a sog rvue base to spport the twinnd mu ies. 5.24 Cenr Tuesfe An dtnatv to a tSC and metro-wide optio woud be to usc the fis rurces of Wper-te goem Given te geograpic covage and th brod bae of cenr taxes, loctoa ditorto would be minimied and effidency losses would be low. is would be espcily tue If, at the margin, the tasfers to the m wer finaned using the VAT. While not a redributve instument, the use of the VAT for fnaning the back-log in services would not be highly regressive either. The increases in rates rqWred woud be low and an the epeditu se the isibutve impact would be high, especialy if the invesmnts are trgeted towards the black community. 5.25 Ceral trsfers have the is of making local authorties dependent on upper-ti governments wit the possible loss of autonomy, effidency and ab of local govmen In adition, evea if transfers are allocated on fte bais of formulae and ae guaranteed by some c and lepl amenent, ee is alwas a isk of havn the flows reduced or eiminated oan a unilateral basis. Such unprdictabiit may affect the abilty of local authorties to plan teir local budgets effectvely. Finly, given the number of mnicipalites involved, it may be administratively ome to target Wanfers to local authorties direcly from the center or through theions. 5.26 Co ng the Options. Given the diferent strengths of the vaious options descred above, a sategy of combining the rwevenue ntments may be preferable. Two decisons wi need to be made in this contet Firs, poy makers wi have to decide on the scope of the municiw boundaris Second, on the decision on the bouni have been taken, a stey for financing the new muiis will be needed. As sggested in Chapter 4 and in the discussion above, a system of twInn municis would need to rly on central or regional trnfers for financing uran services in an equitable and efficie mann. A opoltan boundary, oan the oth hand, would allow greater use of local resources and local decion-making in fte delivery and financing of services. In addition, a metopolitan bowudary would itnalze the spiovers of cost and befits that chaze the urban setngs of South Afica. Finally it would minimize thcxnpring of tax burdens -40 - that is cufrenty common especially with the geographic scope of payroll and tunov taxes. It is tk as a sating point, thereore, that a metropolitan pooling of finances would bes suport the process of amagamation of the cities and townships and provide the basis for a strong loca gov=ment system in South Africa. 5.27 Duming the tansiton, a metopoitan administrtion could fimetion as a bankrx ' to finance the delivery of srvices across the twinned muicialites. This option would permit the use of e exisng adminisive system of the WLAs and RSCs without having to create a new adm t for the deiery of services In addition, such a transitionary arang t, as argued in Chapter 6, would provide some flexibility for the long rum. It wold allow pobliy makers the opto of keepg this anangemet tact or slowly develp expenditue responibi at the metro level. It would also permit the dismaning of s system if it was deemed uMeesy. Ihe importance of this flexibility in face of the evolving na= e of the urban ctor is discussed in Chapter 6. . . Z3Ei i . EEa 2g ' E1i 1 . ' i k = = s N W E ! 11=3 E~~~~~~~~~~~~~~~~~~~~~~. ~ ..4 ~~~~~~~~~~~~~~~~~~~~~~~~~. '.;9*m lapd7fucio oŁ e to fiurIw &Uayof wi by m f4ecvi, .4itoM g~~~~~~~~~~~~~~ - . a .w - g =_ E gmsie E _ 1ay =_ E .l z . g@ ..;.;..-..;..* -S 26~ th conet of «ibS rot, th t= aneissdoiytiplthturgt transitiona etootandmitato would not have any direct rqnsblity fobr deliverig services. It rmr fucion wld be to finac th deliveer of services by muiiaities. -41 - 5.28 As a banke, a metropota govenment could potentially bave access to }tee sources of finance: (i) tunover and payroll taxes cu y levied by the RSCs; (ii) a portio of the pror es colected by the municipalities; and (iii) the centmal asfes deinated for the BAs. In absence of user charges and propet taxes, the RSC levies provide a usecond-bestu instument for gerating reves frm f eficiaes of pic investmes Tbe prr taxes *fom the WLAs are the redistributive aspect of ths fiscal arrangement. As a first step, the metrn oplitan autort coud inheit the residea rebat currenly given to reits in WLAs Subs ny, a fixed proporton of the non- residtal propey taxes could be designed to the metros. This would compet for the Iock-in effect tbat apartheid poli bahve bad on the location of industis. Fialy, mainniqg the cer flowoud as sugested in Chapter 4, assist the ms in thdir prooess of restructuing and also strengthen t potion of the metro as a banker. 5.29 The role of "baner for th meto duing the tnstio is not a pasive one; its ability to p ason larg amounts of funds will shape the enmegence of the newly m33erged municipaties. Ths power , howeer, should nOt be ad-hoc. The tansfers to the municipali- ties should be guided by car rules bad criteia such as fisa needs and efforts and passed an in a predcbl manner as gat Legislation would bave to be enacted to esm e the taspaenc of suc a system d al to proct the intreSts of the micipities. The ciicfa and powr role plyed by fth met underscores fte ned for legitimate and ac nale rpreta as a prequte for te effee funcoining of this fiscal aanement. 5.30 In addition to the sources of revenue mentioned above, the e litan areas may also need tD access furtier central or regiona transfers. First, the costs of the amalgamaon proce and, in particular, the cost of finai the back-log are uncertai-fiscal adequacy argments would, therefore, suggest the need for central asistan. Second, there is a signiant diffce in the fiscal capacity of the different cities. Third, fte creaton of etopolitan areas and the finacing of the back-log bave ional implicatns, wit natn stakes. The financing of cities should therefore not be left as a local problem only. Finay, upport from the center or te regions would be even more important if redistribut picis are followed at the local leveL 5.31 The fiscal trsfers could be placed in a nonw-rplenishable municipal fund to be aLoated over a finite period to metpoL areas based on criteria such as fiscal needs, capacity and ability to implement the changes neded. These funds could also be levrged to access c l markets. Tbe non-rpmeihe natue of the fund would guarant that metrpolitan areas do not get dependent on central assia but are assisted in phasig in the changes at the municipal lvel Funly, the avilabiit of these fnds would dampen the need to raise urnover tes which are biy ieficient and inequitable. 5.32 During the len n of a metopolitan n either during the tion or the long-run-policy makers wi have to decide on the relative weigs to assign to each source of revenue discussed above. Emphasis on urover and payrol wi push the system -42- towards loca financing wbile a greater reliaoce on cenhtal tsfer wM promoft depeden on upper tier financg. As the disusso above suggest, this decision wi in tum be determined by the weights asied by policy makers to autonomy. efficiency and equity criteri described earlier. S.33 In additon, this fisca argemet would leave tie municts under the met-opolitan umbrela with a sffict renue base-portion of the property tazx ad rading acount surplus- to remain indpendent in thdir functionsP. TMs hindpendee i ctifca ff of loca cotuencies is to be prmtedL Whlet it being arued that the tfflcin and eqitable financing of the back-log requires a metropolitan system, to nurtr greater local and acount smaller sized goverment is preferabl Te twinned-municipalities may stl be too large to promote such local particIpatio. However, in the sstem big pposed te local m old have sufficient revenues to promote greater participat at tbe neighborhood and muity level by providing smaller local groups a budget for assisting in the divery of svces. 5.34 An altnive an nt would be to place all revenm in the hand of the metro. This polcy would in efct assume th the m would act as arms of the metro. The Weroplitan I this case, would bear the es for both finacing a basic standard and in responding to the divrse om preferences. Thus in addition to deding on the etent of relia e on upper-tier financing (payrol and turnoe versus cental trn ) polcy-makers w also have to resolve the ise of the 'disvi of pow betwe the metro and municities.3 End~lM AffoMos "It coul be argued an benefit princ4ipes that only the municipaities should retdai ths uig to we poety xes. Wile Us wou be compatil wt th arragement being desdbd adov, it becomes a mor ima to clealy sat to tules of th gam. If tading awoun wauss ran at the municipa level and are ot seith te metro, a mnicipality could for xavple. hold back in isng propty taxes and rdy mor an trading acomt upluses ecae i s expectd to share a porion of its propety ve with dte met. Mm metro would t av to dOy furth oa tover and psyri taxes. It is precidy for ts s that the drnles of the gam" ned to be defined cleady. "In is sense, the debat abt te alloctio of fia rtponslit be meto tier ad its munic8palities is no le th debate on te, alocai of pow betwe th Cnt ad Proie In the curt system, to Pvin ar nothig mor l tadn aams of the Cent. Ibis apion at the loca levd wodd iply that l fcing eponsbiity woud be at the mespoliUt lel It is eped that in to fu.a, Province wil b greaer powes to tax nd 1udt idpdnpde flmio wih te Centaing geae rt uby for finann Standards and equalizing fis capy acr trgion As doesacd i t main text, a meto could also peform his roe of 'equoge with the micipltW baing suffcit indepedet soure of reve and expenditr , reonsibiliies to sev th ned of their The fuctoMs &affcting the desip of grnt sysens betwoee t Cetr ad Prois would also aply in th desi of a basfer schem betwen a Do nd i8 municipalitie. -43- 5.35 The disussion has so far asmed that during a transitional period the allocaton of expenditures betwe tpp-tier govements and the local level will not change. In additin, it was assued that the presu of delivering basic srvices rapidly would be sufficiently strong to preclude the eishment of exenditure functons at t metropolt level However, as discussd briefly in the next chpte, tere are sg easons for establshing a metropolian tier of delivey foercrai endites. The advn of doig so may. be sg enough create the ainiaive tier for e LIy of services men at an ealy sage. Under this opon, the equaizin fcton of the baer descrhed aboe could be perfbrmed though the direct deivery of services by a metr an entity. 5.36 To summarize, ts capter pooes a peific finacial rang t for the amalgamato process. It is ugued d the n of cities and ownsbips can be best suppore by a pool offisea rources under a metropoit umbretla. Unde this u,rapgement~ a metropolan administration would act as a banker to port muni es in the deivey of servic. As a banker, the metro coud bave ess to te RSC lev, a por ofthe popetytes, and eentl asfer e mul, an the other band, od retain te right O pqperty taxs and pe tadng ac in this scenario, the metro would play the rle of "equae and finance a basic level of serie acr the municipalis An ateAnative om would be to conentate all revues in te bands of tie metro and leave te muniptewith reso t for delvering sevices only. In this more *centralized' arrngeen de metro would hae the resp onslit for financing both a minimum stadard and meeting the prefene of a die metropol commuy. -44- Chapter 6: Tbe Eement of A Strtegr be LM ng Run 6.1 Pocssing on the ransion, the pvio chapter daboated on vious optons for financing the amalgamatd cites of South Africa during a three to five year period. Thi capter looks at instional and fiscal reform of cities frm a longer-run perspectve. Seveal diffences distnguish the long-run conditions from the contex of the tansi. In additn to more polidca certainty,, it is also asumed ta the economic cus e will be more stable. In particubr, it is expected that a larer porto of the black community wM form part of a propet tax base and wMi be paying use chargeL Secodly, it is expected ta the scale of the investment needs over any one period wi be more stable; ties are, however, eected to continue to grow though less from migation and more from naura birth res. ITirdly, cities wi have greater flexibit to rfm tir admstrae nd fiscal rrngeent d intodui n instuments if necessary. Finally, and thi Issue Is comm to both the long-run and fte tansition, cities will continue to fiae te pressures of of their fiscal base 6.2 -Me chapter first ad the issue of adining decntalon Ofempl nodes and high incom bas. Altratve instonal and legislative optons for limiting the decentrad of fiscal bases are discussed. The dcussionte iden different reve instruments for strengthening the fiscal base of a metropolitan systm Fmnaly, the chpter raises some issues regrding the allocaion of pendi and revenue sources between the metropolitan government and e munidpalis Preventing the Framenion of Cites 6.3 Irona experience wh city growth indiat tat over tme, there is an outward movement of industial and commercial nodes from the centers of the core cities. TMis movement paralles the flow of higher cme population tws the suburb. In the context of South African cities, there may be added prsures for households and firms to escape the impact of fiscal tasfers if local ments pursue stog redstributive policies. Over time, such decentralizaion may weaken the fiscal base of a metopolitan system. 6.4 By itself, the emergence of new municiities and urban aggomerions ou&ide the boundaries of estblished cities is neifter ineffiint nor inequble. Effidccy is wel served by smaller-sized local gonment providng a leel of svice tat refect te prefences and income of their commes. What is ciical fom a fiscal pepective is to ee that the new muiipalites continue to m the fiscal obligation of sbaring revenues within the broader udan conubation. This is pardcully important if the policy of horizontal financing suggested in the previous chapter provide the fiscal fouatm for the metrlitan govrnments of South Africa. 6.5 Two different optons are avaiable for preventng the f entation of the metropolitan fiscad base. First, give tat households or mnicipies generaly fall within the scope of regional or national tax instruments, mepot governments can always rely -45- oentral or regiool transfers to meet their fiscal needs. Wile in theory such an optio may seem appeling, in practe it may wel leave the menropoltan areas susceptible to the discretio of u -tier gomens. In addio, there would be progrssive loss of accountability to local cints a the center, instead of the metro, becomes the 'baner.' 6.6 An altave option would be to gie mn governnts the right to annex or veto the inc a of new mnicpes and mm es outide thr boundaries creating, what in the United Sttes contex bas boee called,'cities witut suburbs`O Ibe intenationl expeienc wit such Lei on s lmited. New York cty, to take a page from US urban history, was formed by combining the five boroughs-n act roved over fierce lobbying opposto from walty ut an which led to the creto of am coumtry's fist metropolitg n In genral, municipal nnato is utized by law in forty e saes in the US but ofte with attacd condions which, In practice, mabe annemaion a difficult process. 6.7 If annead to b a e local governme cnlidat are judged to be suitale in the context of South Africa, a natioal w may be need to ensure that such polcies arn binig over regions in the fue. It may well be argued that the fiscal integrity of metropolitan areas bas naial impcaons and should threre not fal prey to regional discreion. Whie such lelaion may not bc troversia in the contt of metropolitan areas locatd wdl wnhin on regona boundary, like Cape Town or Durban, it would be harder to implement in a multiple urban conurbtion l the PWV. In the cas of the PWV, a prefb solutiO may be to give this greater me in area a regionaW staus with a large enough bounday to intnaize its suburban The PWV would then, be best pled to play the role of *banker for the various urban agglo s within its bordeML2 29David Rusk, ci"Mm Wi Subub, Jobn Hopkn UVnivsity P, 1993. 3OR in his book args covncg* ta ths aneatom ld to an en of urba success fa New Yo*. Whe it wa uly a metropoUltn gov*m tt, Now Ya* ciy was enormo uceafu Whe it sipped into boing t ceal city of a etropoit rion xmndlng for beyod its borders, is abled pobles began. New Yaok cieotyn anohe Gm 'Gero of 1895'.' 31,7 popospd goes couner to nt a nt that te PW sold be spaated into Mal ueas with potions of it being inoporatd into adcet regions. Clay to pod aspect of creaing regim nd not neceuaiy th economics of ubaniztin ma by dbo aitical dete_inant of tho status of to PWV comple 321t sould be stressed tatW the argumnt bei presentd he is no on of preventing the growt of now muipalities. Rater, it is on of _suring tha w munipities remaki with the fiscal boundies of the mopolita setting. In addit, it is a son ot being agud th ovar tim th ruea bounday and the rgion bodunday bpieom one and th wmi Cley, an ubn bounay wil'b. mrd in tams of th strenth of its lbor mAk ntai ad oe lnkage. -46 - Strengthening the FisalUse: Fsal Intuen 6.8 In the previous chapter, it was suggested that duig the transiton metropolitan governments should have access to a combination of ceal tansfers, RSC levies, and property taxes. Each of te fiscal itume has implcatio in the log-n ha sugest that addition and eve alternave revue Instruments may be mor sutable. 6.9 Firt, as sugested above, cetral transfers may diminish the fiscatnomy of cites and introduce an element of discretion in the availabity of funds. While it is true that upper- tier tasfers can and should be tied to rues that are poted by liato and perhaps even the cnst , clealy if ste fiscal inuments are avMailable tat can be devolved, metropoitan goenment would natraUy exre a preference for the lae. 6.10 Secondly, the turnv tax, whch comp, s the major share of metropolitan revenues, is a bigbly Inefficient source of revenue-e ally given its cascadig impac In adon, it an easy source of money for local go nts. uver aes are pereived to fall on businesses ad thus geerally accepted by communities. On the other hand, busineses are tolant of increases in turover rates bcause of their abiity to pass at least iome of te cost on to consumers. As a result, it woud not be suprn that, at the margin, metro an gvnmets resmorted me and again to ies in tunwver rates. For this reason an nat fi instrumt woud be preable. 6.11 Finally, inteation experence suggests that property taes are not a buoyant sore of reven. This s prtiay be of the ministrae difficuti of valung prper and party because of the politics of propq taes Wbile t Inherent in property taes is its strength, it is aso its wekess as evident from the tpe of reistance that has resulted from incrases in property -rates. Proposition 13 in the State of Calforia is a good examle of this behavior. TMus, even with strong property tax niion, it can be argued that re ues from this base may not match the incases needed for sustaining the ex;endiure ent over the log run. 6.12 Alternatives.3 Severa altives may be patcularly relemt for South African cities. One opon is to replace the turnver tax with a reuil sales-tax or a surchage on the individual-mcme tax. A second optan woud also entail looking at the tradeoffs between a sales tax and the individual income-tax but in a context where regions would also bve access to these taxes while the cental govem t would retin the VAT. It is agued below that in a contex where centrl-regional allocation of taxes cbange, the alternaves for local governments are diffeet. 6.13 As in the previous chapter several criteria may be used to evaluate the altenatives. Primary amongst which are adminive eaibility of lemeting tax system; (i) 331be ue of automotieMxes gad Cs-rexaple om ci_ an euns ad alcohol addrdumd in a forticoming pan iutomet fina Bot bese du e wold be mpotn soures of fian for _etrpolitn areas Mm ax rate wol hovAr nd to be fairly simil acrs reion to avoid evason. -47 - efficiency (in teWms of the broadness of the tax base);(Jii) equty; and (iv) renue adequy. A sales tax would have a broader base than an income tax and provide a more efctive way for generating renues from the Informal economy. In addition, consumption is more sSte tha income suggpsg that saes tax iS a more predictable source of rvenue. Both ar firly buoyant with in flion and growth of income. In em of equity, however, iacome tax woud be peferabl. However, a gadua rate at the local levd may result in locationa distotns especially if the rates differ betwee cites . Overall, therefo, a sales tax becuse of its broad covage may be a preferable alteratv 6.14 Colications, however, arise when we consder that regiona g ernmets may alSo have aoo to sales tx and tat the VAT wi rmain at he cent. A regional and local sales tax wit a central VAT not only leds to double Uatiorn but also crees ae and compliance oosts for the econmy. An alteative to a VAT-Sales tax e t is a system of piggy-bac on the centa income tax and centrd tasfer of the VAT. Ths arangemt would have he advantae of pviding revues to the cities and allowizg for some autonomy and independence f the surhg on indidual income tax can be varied within certain limits (e.g. a 3-6 percent range). Given the concentration of the persona income tax base in the four mxet itan areas, access to the loca income ax withn such a band wod provide a suffient cusion for te me litan area In addition, a surcharge system would allow local n to draw UpOn the e ma y of the cetral govenment without using local resources to create a seaate tax administtio 6.15 Sve impotant considraos need to raised regadin a system of surhae on central-income t First, as reoons and meltroolin nm get acce to surdcge facilies, the central me wi have to be adjusted prop onaty to kep the over icm ix burden constant. Any shortfal in cental revenues, on the other hand, may need to be compensatedtrgh increases in altente aes (e.g. the VAT), reduction of exentu, or devoluton of exendits Secondly, if autnomy of cities is to be increased, flexibility of adjusfing the surcharge needs to be maintained. However, this option woud automaticay require that income tax is colUected at the place of employmet Othrwise, individuals wil have the incentfive to dedare the lowest xed region as their place of reidence. Thirdly, given the splover ipact, especially in the case of South African cities where counies have bee placed beyond the city boundaries, it would be propia mt olian govenments and not mncipaliies ave access to income tax. Finally, given the view that the regonal and local surcharge is intended to pay for gnaized benefite, it mitt be approiate to allow a different tax theshold than that allowed in the income tax of the central govemment. Wile this would complicate adminision and compliance somewhat it would presumably not be more diffwult ., implement a two part income tax with differences in theshold than to implement a combination of payroll and income tx It is thefore "This view of e surage oan idival im tax dasog ta locl ovemmets should levy a fat ate Besides, gdutd taes would have thl of daccnuatg fisa diau and d&ing locatfical teduW -48- issumed Xth in introdusing a sucharge on individual income ta as a rplacement of the turnover tax, the exsting payroll tax would automaically be discontnued.'5 6.16 It is important to note that there is no one "correct set of fiscal instruments that could replce the turnover tax. Ulmately, the fiscal opdons avaible for metrs will be detmined to a large extent by the broader refrm of the sstem of ntergovenmetal finance. It is important therefore ht the current debate on regial govem at the national lel is conducc in tandem with the ngotiims on the retrcuin of loca govement. Rethinng the Role ot A 9Banker" 6.17 So for, t dcsn bas assessed the different apto of sethin the fS9C base of me l goerments e tbrough legiaon that suport a tion of munip alties or by acceng new sources of revenue. It has been asmed throughout this analysis that a metropolitan vrnmet will contiue to functio as a fincier. To wat extent is the role of b"ake appriate in the long run and to what ectn soild the meto begin to iherit die responsibilities is an important area of analysis which wi be.pursued in ftture secor work. A few isues, howe, ned to be raised a this stg. 6.18 Any firm conclusion about th deabilit of one form of urban govenae and one form of urban pube finace must be tentative and pronaL There are profunmd uncainties about the demograic and economic vol of urban eas min the years to come. Apartheid has created ficat economic distortions and the esting uban sucturs are far from those that would have arisen under free maket conditions. The liberaization of market is surely one of the major benefits to be anticipated from the ending of apartheid. But the rapd economic and socia changes that this may entail wil create many chleng for urban public finance especialy as urban labor and housing markets begin to respond to the needs of post-aprheid governmenLt 6.19 In this context, flibiity in the stuctu of urban governance is an advantage and the metropolitan 'banker described in the previous chapter may very well provide this flexibiIity.6 Rethinlng the role of the metro banker and providing diret expenditure 351n addition, tde payro tax is a tax n labor. A sarge on income tax oould inlude a surchan both the labor nd Qon-abor com_onet to educ any incentive for tax-ndued substtutin of capt for labor. 31b raises a nme geneal point New goveWn stuctures tnd to becom permnent, except wbn faced with a crisis, and we cert˘ny hope that South Afiica will not face such a erisis in the Mute. Bt one cn Wel imainesituati in which same of the asmnts for mto-wide governme may become less conpel in yeas to come as tihe fisca rources of the bla* areas become bette established, as t administative exetise in the blak communities imrove and dt division of sponiites among dift levds of govermnt boes more clear nd the systm of intergovemtal elaon is adaptd sacorngly. It may be desirble to esablish some st of usomt provis acording to which now isitutiowoud quir specific rautoraton withn 5 yeas or so, so tha o system does Aot become lockxd into an instituo stracture that then becomes -49 - responlilides should be done at a point when it is felt ta the dynamics of uranchange have become more predictable. How to assess when this point has been achebved is a jugement call tha only South Africans can make. 6.20 However, the a two mpat reasons why the role of the baer needs to be revisted at an early stage. Fst, without a dear assigment of responbilit between the metro and the municpality, accota In the der and fiancing of services wM be blurred. Resdents of metropolitn sys need to know who to challe when the dvy of srvices is faling and loca goerments are no respodn. How to establish ths line of accountability an impornt area of concern and critical to the succes impl io of 6.21 Second, there may be substantial gains in eoomies of scale, effiency, and equity in assin the deliy of cetin sevices lo the Dmerpolitan levl Trasprato and of eliity and water may be candidatesfon However$ it is not dlear at th stae whether these should be deivered tough metropolitan utes- either as reguated prae or public enties-or through a 8nera purpose metr opoltan goNenme nt (see also boa In Chpter 4). It is expected that fte scr work wil adds this issue .22 To mmaiz, the dicusso in this chapt has identfid some issues tat may be imorn for the mepoian ars to ad over a lon hoizon. ese indue AdIg the fial implicaio of household and fim moblt and identifg more ffective souces of revee for metolitan g ents It is also suggested that the :m t of spon betwee fte metro and mipal tiers a critical determinant of establisig accountabilit and effciency of a met n system. Whfle this issue bas not been daborated in this report, it has been is identfied as an important area of futue sector workf put of tb hle zm ined of being put of tl. solutiaui Chapter 7: Conous ad Caveats 7.1 Sueay IThe design of a fiscal srategy for the meatopolitn areas of outh Africa will be influenced to a large extent by how the bon r fe municipalities are drawn. A strg of amlga ton hat is based on damwing narrow boudaries a exig local authoifies wl requie fisa transfers from p-tierg as t prmaWy sorce of revenue for futr oa gtsPoin of resou across seval municipalities on a metpol basis will, however, eble local gon to dped piunly on loca resources-u harges, ppytaxes, and payrol and tourover ar nividual income aes. 7.2 In establising a metropuo shaing of rsources a two-fold strategy was pmposed. During t transition, a metpin admi coud fucton as a ObanWr', aistg muicpalte to finance te deiy of basic seri Under tis soenari, the mn adminisatio would not inherit any expenditu functions. Over a longer horin, loc gvernmet could eassess the need for a metlan administration to inhit exenditure ra Other options for expentuu as sp prpose distict ao metro-wide utilitie-cod also be explred S g the role of a mtrn adminiisa his would allow for maximum flexibility in a cotet of rapidly evolving dymmic of uzbn economies in South Afric. Equally important, the trans arrangemn tswould enable he rpid fin ng and dW of the back-log in rces by drawing n exsting a s gt of local govnnts Overa, a two-tier metropolitan sstem sems apprpiate for fte major metropolitan areas of South Afiica wit the metro-tier tg on the esponbity for playing the role of Oequalizer' and f cing a minimum standard of urban services across all municpalities. The municipalis would, on the other hand, respnd to the specific needs of their constees 7.3 Mang U nce a On the fiscal sde, te poe of elocal governments is likely to be buffeted by unces at several levels. Frst, te is a possibiW that economic constraints at the macro-level may substantlly reduce the flows of intergovernmentl fiscal ansfers to the molitan areas Second, cities may find that the dynamics of household and business mobility are rapidly depletng the fiscal base of some municipalies. Third, beneficiauy taxes and user charges may not, in the short mun provide ubstantal sources of revenue for local government. Fourth, municipalities may not bave the instituonal capaty, Including the manpower, to manage the process of and delivering the back-log in services. Finally, the economy may contiue o expec low growth rates. 7.4 The metropoltan stcre ined in this report provides a greater buffer against these u tainties an the aternaive proposals for res m5trcrig local govennts. By baving acces to the three sources of financing-intergovernmental flows, property taxes and user charges, and turn-over and payroll taxes-a metropoltan system would be diversif its income base. Given thai most of the pasonal income tax is generated in the four metropolitanareas, access to the personal income tax base would prvide the greatest security -51 - for metropolitan governments. n addition, by baving a metopolin boundary, cids would minimize the fiscal impact of locational changes by households and businesses If the boundaries are drawn fairly widely and redistibutive polies are well-balanced, locationa changes will tend to be captured wihn mepoitan jurisdictios. Finally, by immenig enditre rbili at the metrpotan levd only gadually, it may be possible to use the exisig institutional capaty to ddiver basic urban svices as raicdly as possible. 7.5 Slow growth in th economy or the cbance of a major down-turn wil sevely restLic the potn fbr financing public investmt not only at tie loca level but at all levels of goVer-ment Poo resource, as uggested int etplitan aagemet, becoames ev more impoMnt in the case of a major shock to th macro economy. Whfie the effect of the mao economy on the finas of lo governm is an impotnt policy issue, i Is equally cdtical for polic m*rs in South Aftica to be cognizant of the reverse link -t impat of lcal governmt poies on the macro economy. T port suggest tha the fianig of the back-log in urba sices has fte potential of affeting fe stabit of th macro economy. Policies wil bave to be enacted that put a costaint on the grwth of. expenditue and boowing of subnadion govements while alowing the same sffiient aunomy to establish accontable and efsicient government systems. Monitoing of local pgvement borwing and control over tir total endite gSrowth are importn poliy measures in this regard. 7.6 cal Awpe Several Important asmiptons form the basis of hie analysis. Fst, the analysis was focused on the desip of a fancing smegy given the edsdng expedit allocation. Throughout the analysis it was assumed tbat local governmets would not inhent new expenditure functions. The caveat was raised that m order to avoid any fiscal mismatch devolution of new expenditre items would need to be matched with access to additonal sources of finance. Anticipatg the potential for a fisca smatch, it was suggested that mepit areas bave access to addiwnal amounts of transrs in the short-run and a share of the personal icome tax over the longer-run. it was al emphasiWzed at given the link with upper6-tier govermnt, local gov=ment reform needs to be undertae in the cont of and with refence to the restrutuig of the itergovernmentalsystem in genal. 7.7 Second, in favoring a metrpolitan system that relies primarily on local sources of fiance it was assumed that local ather than central financing has greater potental for promotng a more efficient and accountable system of govenment Reliane on local financing is, however, only one aspect of develoing onti at the local leveL Oher iportant fctors include bringing sevice prvide into closer proximity to cls-the countepat of bringng finance closer to residents- and ensuring that the poliical process is capable of promoting electra choice making and of reguating the behavior of polial leaders. 7.8 Third, the analysis assued that even as the fiscal aranents of local government are altered, emphasi woud be placed on promoting greater reliance on user charges and prop taes. Ultmately, these sources of finance are te most efficient source of local -52- government revenues and ones which have the best potental for fosteing an accountable local governmnt systm. Allowing property ownehip to emege in the black community and fosting local goverment sm that are reresentive of South Africa's diverse urbm communities are necessary conditions for enabling fue local govements t rdy furtir on local sources of revenue. 7.9 I*e Next Stps Sel ars-analysis of capital market cacdty to serve t nee of local govn and an inl comparison of expenditure funcdons of two-tier tpolita o-ve been idenified as imnt areas ont f ftr work. Three further areas also need to be analyzed: inst reform, desg of fiscal tran, and the fin g of ondarfy cities. The f arran descrbe in this paper suggest a need for impl ng a m naon first as a banker and then as a direct Ofservces. 1hLtkudarrangemen;-ts tat cnsuppo!rtdthe roles outlined have not bee discued in any detaiL or ele, the paper does not look at the tradoi of itroducing a gera purpoe _dIV tropta sctruce ves creating independent service a ies at the la l Ie paper also does not descrie potel darnave angee for the abae and, in pardular, the legl and constitutional frame warks that may gide its daily operaons. ese Issues wi form imp dements of th fitue dialogue W counterparb in South Africa. 7.10 Secondy, focus wM also have to be placed on the desg of integvmental tansfers betwe uper-tier govenme and local authrites (metros and mes) and betwee the metro and mun . No tier of govenmet wil be fully self f speoially gtientheext of rvegionl di iq i South&Afa. Fiscal transfers will ultimatly play some role, and for smaler u areas pe a greater role, in te finances Of uba gOVernentS. HOW to ene that fiscal transfers will enable local gove ts o efficiey and equitably delivr and fiance la svices wil depend criically on the desg of tansfer schme be it at the intm-metrpol level or between upper-tiero and local authorities. 7.11 Finally, it is impota to emphasfr that the fiscal arngement suggested in this paper are relevant primarily for the lan areas of Sou Aica. The opons desribed in this paper may not be mitable for the smaLer seodary cities of the country. For example it may be hypothesid that Oar cndary cities fiscal transfers from t rWgions might form a more importn source of finance than for melita areas. In this case, the regon would play fte role of mequalizer" and financier of baic standards-roles assigned to the metrpolitan administat i he f arangemen outlined in this paper. The desn of tansfe emes would be of critical for the secondary cies. -53- Biligrpy BahN, R. and Jobannes Ln, 1992, Urba Public Fnace In Developing COunUDt, Oxtbrd Univeity Prs. 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Widasin, David, 1980, Loctionad Efficiency In A Federa System, Regional Scne and Urban Econoi;cs, 10. W-mer, Sl., 1983, Some Evidence of the Effects of the Separation of Spending and Taxing Decisions', Joumal of Polical Economy. World Bank, Urbn Aide-memolres World Bank, Micip Development Sectr Review (draft) World Bank, Urban Policy Pap