Regressive Effects in Local Fiscal Relations of the German New Länder: An Empirical Analysis of Brandenburg and Saxony.

Fiscal relations between the German Lander and its communities are characterised by vertical transfers from the Lander to their municipalities. Traditionally the system is discussed vigorously as it serves allocative, redistributive and fiscal objectives at the same time which are at least partly in conflict. Recently additional criticism has been put forward, because theoretical analysis suggested regressive effects of the "Schlusselzuweisungen". They are the central element of the transfer system and adjust transfers per inhabitant by the size of communities, i.e., big communities receive higher transfer per capita than smaller ones. It was feared that especially in the East German Lander the system would fail to equalize fiscal resources of communities as there disparities were even higher than in rural areas of the Western Lander. In this paper this claim is analysed empirically. It is shown that although theory was correct in anticipating regressive effects, these are rather small. Nevertheless the system fails its redistributive objective.