So, given the hope that the central government would act soft, the regional governments still have a dominant strategy to shirk.
Both dominant strategies find each other in the lower right cell, resulting in the Nash Equilibrium where regional governments shirk from their responsibilities, and the central
government has a soft attitude towards the situation. This game is commonly labeled as a “harmony game”, albeit an unbalanced one i.e., the scores are not even. It is so-called
because both players have harmoniously-aligned incentive structures which lead them to an equilibrium situation. However, in this case, the equilibrium is detrimental to the
people. Is this the fate of Indonesia under decentralization?What policy measures could be taken
to improve the situation? To answer this question, it is beneficial to review how China - another large, developing, and unitary state
– has implemented MPF.
II.4. Learning from Market-Preserving Federalism in China
Weingast1995 argues that in practice, federalism can be applied by countries which are formally federal or unitary. The USA is a federal country formally and in practice.
But India, he argues, is a formally federal country which in practice does not apply the principles of MPF. The UK is a formally unitary country which in practice has been
applying MPF since the 17
th
century. China since the 1980’s is similar to the UK. It has a strong central state which is disciplined by federalism and conducts a largely hands-off
approach to the affairs of regional governments. How was MPF implemented in China? Considering the strong image of China’s central state, not many people realized
that China today is arguably among the most decentralized countries in the world. The World Bank 2005 in their stocktaking of decentralization in East Asian
countriescharacterized China’s approach as “incrementalist” and “peacemeal”, in contrast to Indonesia and the Philippines which it considered as “fast starters” with a “big bang”
approach. Although China’s decentralization may have happened gradually, and focused
primarily on economic, rather than political aspects, the reforms were substantial. In China, local governments are not big recipients of central government transfers. On the
contrary, they have to generate a large portion of their own revenues, which they get to keep as incentive, by developing the local economy Weingast 1995. The fate of local
government revenues, therefore, came to depend on their own performance. This created
a situation where local governments are ‘competing’ with each other to offer the best location for investment, business and living. These, in turn, kick-started the economic
engines of the regions which facilitated the transition to a modern, urban sector that bring higher prosperity for the people.
There are at least two lessons which Indonesia could learn from the Chinese model. First, the transition from strong centralized state to MPF requires the central
government to give up some of its authorities over the local government Weingast 1995. This was not an easy decision on the part of the central government, and it originally
started as an “experiment” in four locations which it designated as Special Economic Zones in 1980. Initially the durability of this MPF was questionable. What would keep the
central government from taking back the control which they have given to the local governments? However, as local economies grew, MPF became more and more justified.
An attempt to reverse MPF back to centralism after the Tiananmen Square incident in
1989 resulted in trends of economic decline and resistance by governors of the fastest growing provinces Weingast 1995.
Second, both countries are characterized by uneven development. In China, the most developed parts of the country are the coastal areas. Upon embarking on fiscal
federalism, China did not apply the rule uniformly to all provinces or cities, but initially only to four coastal areas which it designated as special economic zones in 1980. Similarly,
Indonesia’s most developed parts are found in Java, Bali and Sumatera. Attempts to introduce regulations that enable local governments to be accountable for its own
economic performance could start from cities in these islands, and then expand from there. Of course, giving up assurance of central government transfers need to be offset
by the possibility of retaining a significant amount of income and property taxes by the local governments, as incentive. The point is that a balanced decentralization does not
necessarily have to be symmetrical. An asymmetrical approach may work just as well to achieve a balanced process which caters to different starting points of local governments.
III. CONCLUSION AND POLICY IMPLICATIONS
