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For example, in Asia in , urban areas contributed about 80 percent of the gross national product GDP 3 and represented 46 percent of the total population. A huge variety of experiences can also be found in Latin America and Africa. Thus, as a strategic priority, national governments need to enable cities to mobilize financial resources to meet the challenges associated with the increasing urban population. They should do this by ensuring the fiscal sustainability of local governments, which is crucial for continued national development.

However, municipal governments often struggle to finance the delivery of infrastructure and services. In developing coun-tries subnational taxes typically constitute only 2. The economic cost of inadequate infrastructure is not only high, but is beginning to threaten the competitiveness and productivity of cities and national economies.

The current urban infrastructure deficit cost in India is about 4.

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

Besides poor support from the national governments, local governments, particularly in develop-ing countries, have been limited in their access to capital markets, creating inter-generational inequities, where they have had to raise current taxes to pay for the development of urban infrastructure services which will benefit future residents. Local governments are thus under pressure to do more with less. In many cases, municipal functions are becoming increasingly complex, encompassing issues of employment generation, social inclusion, and climate change. So, they need to be creative about finding innovative sources of revenues and rationalizing their expenditures.

A great deal of effort should also be placed to reduce the dependency on central governments. Many local governments are learning to deliver services more effectively when they are given more responsibility and autonomy. A World Bank study covering projects involving municipal development investments, for example, concluded that more local autonomy resulted in better access to services at the local level.

Despite challenges, there are numerous opportunities for local governments to leverage their own resources and finance local infrastructure and services — with the support of the national government, the international community, and greater participation of the private sector. However, local governments, especially in developing countries, rarely use alternative sources of funding such as those available from the private sector in the form of loans from commercial banks or public private partnerships.

Most central and subnational governments recognize the importance of cities to their national economies. They understand that cities need certain conditions to unlock their endogenous resources to achieve sustainable development.

Planning, connecting, and financing cities - now : priorities for city leaders

To utilize their endogenous resources, cities need effective financing mechanisms operating within a strong legal and institutional framework. Part of the problem lies in the disconnect between governance structures. In many cases, local governments are far too small to address the needs of the metropolitan economy — defined as the region of clear economic influence of the city. Some countries provide a clear definition on the responsibilities of subnational authorities for the delivery of urban infrastructure and services.

However, this is not sufficient. This process also needs to be effectively systematised. The sections below set out the key drivers in the development of an effective system of finance for both local and regional governments. Governance systems not only provide the political and organizational context for the process of resource mobilization, but, more importantly, also determine the revenue to be mobilized.


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

While not immediately obvious, planning is strongly linked to financing as real or potential revenue from taxes and fees comes from urban development. This leads to a poor financial performance and revenue collection at the local level. There is insufficient support for strengthening institutional capacities, which often undergo rapid evolution. Many countries have programs or initiatives to strengthen the performance, including the financial performance, of local governments.

However, the programs often tend to be very focused on building individual skills — which is essential, but not sufficient. More structural approaches to build broad based capacity need to be implemented. Although national transfers are important, critical to the sustainability of cities in the medium to long term is their ability to raise revenues from sources under their control.

There are several issues related to this. The first is whether local governments are levying all the taxes and user charges to which they are entitled; whether they are collecting them; and whether they are levying them at the correct levels. The key question here is: are there sufficient incentives in place to ensure that local governments collect all the taxes they are supposed to collect?

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An example of a taxation reform that looks for better performance based on local taxation, is found in the case of the Semi-Autonomous Tax Agencies SAT in Peru see Box 1. Semi-Autonomous Tax Agencies SAT can play an important role in strengthening the effective-ness, efficiency and legitimacy of decentralized tax systems, as shown in nine Peruvian cities. These agencies are autonomous in their budget decisions, internal organizational structure and human resources management.

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

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Some weaknesses of the SAT model include the lack of incentives for improving municipal cadastres and the modernization of the entire local tax systems. The third issue is the need for a well-de-signed and well implemented resource mobilization system, particularly in the context of insufficient resources for urban development. This requires introducing further taxes or extending existing ones, with a specific objective of increasing the resources which are at the disposal of the local governments.

One example is the betterment levies in Colombia see Box 2.

Medellin has successfully implemented betterment contributions in the past to recover the costs of specific improvement projects. Current law limits the revenue collected through this instrument to the actual costs incurred for a specific project, plus a percentage for administration. Betterment contributions are a frequently used instrument in Colombia and other countries. The logic of betterment charges is that a public infrastructure investment or service improvement in a specific area benefits adjacent private landowners more than other more distant landowners.

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

Both from a theoretical viewpoint and from avail-able evidence, funding local projects from local sources is seen as being efficient. However, the devil, as they say, is in the implementation. Once revenue is mobilized, it is essential that the proceeds be used as efficiently as possible. To improve implementation, subnational governments must first improve transparency, providing easily accessible public data on the provision of infrastructure and services. It is essential that local governments report their financial situation in a transparent and accountable manner to their Ministries of Finance, their citizens and their financial partners.

Local governments should also budget their expenditures based on the implementation needs of the agreed plan. Prioritization of expenditures — whether capital or recurrent — should be done by choosing the most cost-effective way of delivering the planned and mandated services to the city. The city has the responsibility of ensuring it gets value for money during the procurement processes. Improving municipal finance is an incremental process and the mechanisms used evolve over time as the circumstances at the city and national levels change.

Critically, local governments should focus first on getting the basic conditions right, by maximizing the potential of their endogenous resources and strengthening and improving their financial capabilities. In the case where the national legal framework allows municipalities to acquire long term sub-sovereign debt, cities should aim to attain the credit ratings needed to access capital markets in international markets.

Where such conditions do not apply 9 , however, a sound financial base will enable them to access more conventional forms of finance such as municipal development funds, pooled financing mechanisms or bank loans. National policy needs to squarely address the issue of city financing and the need for national systems to evolve.

With respect to facilitating better city access to the capital markets, there are both supply-side and demand-side actions required. Supply-side actions which enable institutions such as pension funds to invest in municipal bonds are essential.