Fiscal Decentralization and Public Investment in Innovation: A Country Panel Analysis

This article presents a first analysis of the potential link between the level of fiscal decentralization of a country and its public investment in innovation. We present a theoretical model where a "benevolent government" invests in research and development (R&D) aiming at maximizing net income, and R&D results are subject to interregional knowledge spillovers. The model predicts that decentralization leads to a lower level of public spending on innovation, and to a lower share of basic research in the government R&D budget. These hypotheses are empirically tested using country aggregate data. The results provide empirical support to the mentioned hypotheses, as we find evidence that higher levels of both expenditure and revenue decentralization are associated with a lower intensity of basic research in public R&D and with a lower level of R&D spending. The strength of the evidence, however, is weakened by the small sample size and shortcomings of the indicators used in the analysis.