Rein in local spending

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Rein in local spending

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Jung Chang-soo

In July, the city of Detroit - the heart of America’s automobile industry and the symbol of American capitalism and labor - filed for court protection from creditors, making it the largest municipal bankruptcy filing in American history. Such a bankruptcy is unheard of in Korea but is common in the United States and other countries.

A bankrupt municipality goes through similar restructuring formalities and its fiscal management falls under the authorization of a higher state government, just as South Korea’s economic policies were supervised by the International Monetary Fund after the country received an international bailout in 1997. The municipality must allow the state government to oversee and manage tax income and expenditures or appoint a creditor or local court appointee to run public finance.

Unlike when a company goes bankrupt, a municipality can’t close down and dissolve. Under credit management, the municipal administration loses control of its finances and faces stringent austerity actions. Layoffs in the public sector and cuts in pensions or other welfare benefits and services are inevitable. There might be fewer teachers in public schools or reduced transport operations. Repairs on roads and other infrastructure work would have to be put off.

We may soon read about such cases in the national section of our newspapers. Local governments in Korea are squandering money like there is no tomorrow.

According to government data, the combined debt of provisional and municipal governments is 27 trillion won ($25 billion). The figure tops 126 trillion won when guarantees and liabilities of entities owned and invested by local governments are included. Spending on exhibitionist or one-time events and programs over the last decade grew 17 percent a year. Local governments’ share of the budget slipped from 57 percent to 53 percent because they are relying more on bailouts and subsidies from the central government. But few governments appear to be worried or doing anything about the debt load.

Financial problems of local governments have always existed. They also came under fire for poor financing and mismanagement after the 1997 financial crisis. But they resumed their profligacy after the criticism died down. They came under the spotlight again amid mounting national debt and reduced tax revenues during the global financial crisis in 2008. Now they are under scrutiny because the country overall has less money to subsidize and sustain local governments.

The revenues of local governments has been barely increasing, worsening their fiscal problems. According to the Korea Institute of Local Finance, tax revenues in local governments fell below expectations for the first time last year. Expenditures are expected to outpace revenues from next year. Without cutting spending, local governments will inevitably sink further into debt.

The initial fault lies with local governments. The central government should share culpability for oversight, but it is really up to local governments to shape up before they reach an irremediable stage. The municipal bankruptcy system should be enforced as a rude awakening and warning. The doom card must be waved to stop local governments, enforcing them to save themselves before they fall deeper into a pitfall. Governments and residents must join forces by reminding themselves their community could go bankrupt if they do not spend less.

If we agree on the direction, we could modify the program, along the process. Both accountability and authority should be enhanced. On accountability, residents could be allowed to hold a referendum to dismiss the head of their government for mismanagement.

Local governments continue with poor budgeting and management because policy mistakes and follies have been tolerated. The autonomy of local governments bestows rights and responsibility. It must be guarded and upheld by governments and residents. A bankruptcy system could help advance autonomous administration and fiscal management.

*The author is head of the National Finance Institute and a guest professor at Kyung Hee University.

By Jung Chang-soo

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