National Income And Fiscal Decentralization Effect On The Size Of Government

The size of government has been a hot topic for many years. During the immediate post World War II years, with the development of national income, it soon emerged from the data that the public sector was assuming growing influence in Western economies. In response to this phenomenon, the German economist Adolf Wagner proposed the famous Wagner’s Law, i.e., there is a long-run tendency for the public sector to grow relatively to national income. Different from these developed countries, China’s government size fluctuated, contracted and expanded sequentially in the process of economic development. So it raised the question that what are the most important factors influencing China’s government size.After reviewing the literatures on government size, we intend to examine the relationship between government size and national income in China over the period1953-2009. Taking into account the reform and opening up, and the fiscal decentralization since1978, we also introduce a dummy and fiscal decentralization as explaining variables.Through regression and robustness test, we could draw two conclusions:First, Wagner’s Law is not applicable in China. The estimated parameter is not statistically significant, and national income is not the determinant factor influencing government size. In addition, the reform and opening up in1978leads to declining government size. Second, revenue decentralization and expenditure decentralization are totally different. Expenditure decentralization significantly causes government size to decrease.Compared with other developed countries, the size of our government still stays at a very low level. According to the results of empirical analysis, we should reduce the level of expenditure decentralization as well as optimize the structure of fiscal expenditure. Specific measures include reduce the resources that local governments control, limit local governments’ability to create liquidity, put "vote with their feet" mechanism into full play, and change the standards that central government evaluate local governments’performance.