Stimulating Local Economies through Central Transfers: A Natural Experiment from Ecuador

Leonardo Sanchez-Aragon, Gonzalo Sánchez and Wladimir Zanoni

No 14141, IDB Publications (Working Papers) from Inter-American Development Bank

Abstract: This paper investigates the causal effects of central-to-local government transfers on local economic activity in Ecuador, utilizing exogenous variation from a reform in the intergovernmental transfer formula implemented in 2018. Addressing gaps in the fiscal decentralization literature, this study provides quasi-experimental evidence from a developing country context. Using an instrumental variables approach, we find that a 1% increase in transfers leads to a 1. 19%-1. 26% increase in local business sales, particularly for small and medium enterprises. We identify recurrent spend- ing, primarily current expenditure, such as personnel costs, as the main transmission mechanism, challenging prior literature that emphasizes investment spending. This research contributes novel empirical insights into how transfers impact local economies in middle-income countries and provides relevant policy implications for effectively structuring fiscal decentralization in resource-dependent contexts.

Keywords: fiscal decentralization; local economy; instrumental variables (search for similar items in EconPapers)
JEL-codes: C26 H77 O18 (search for similar items in EconPapers)
Date: 2025-06
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Persistent link: https://EconPapers.repec.org/RePEc:idb:brikps:14141

DOI: 10.18235/0013554

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