Do municipal mergers internalise spatial spillover effects? empirical evidence from Japanese municipalities

This study investigates whether municipal mergers could internalise spatial spillover effects by comparing mergers before and after they occur, focusing on local public library services in Japan. A spatial spillover effect occurs when the benefit of a local public service spreads across its own administrative district and into neighbouring ones. A free-rider problem among municipalities might arise when a municipality decides how much to supply internally under a decentralisation system, recognising the existence of spatial spillover effects. Under such circumstances, spatial spillover effects might be internalised through municipal mergers. In Japan, large-scale municipal mergers took place in FY2004 and FY2005 and the number of municipalities decreased from 3,232 to 1,820. By applying cross-sectional spatial econometrics models, we find spatial spillover effects in public library services both before and after the mergers, but the impact becomes smaller. The results imply that municipal mergers could partially internalise spatial spillover effects among municipalities. Additionally, we showed that municipal mergers increase the supply of library services. As a result, due to the merger of municipalities, the undersupply of local public goods with spatial spillover effect may be decreased, which could help achieve the socially optimal supply.