Beyond Traditional Federalism

The economic theory of federalism yields one clear and overriding result: a federal (i.e., decentralized) state is superior to a centralized one in the sense that it fulfills the demands of the citizens more effectively. A federal constitution that endows the federal units (provinces, Länder, states, cantons, or communes) with sufficient decision-making rights and taxing power has three major advantages over a unitary state:

Advantage 1: More Flexible Politics. In all societies, citizens differ widely in their demand for services provided by the state. These differences in demand are not only the result of heterogeneous tastes due to differences in tradition, culture, language, and so on, but also of unequal economic conditions. The latter are caused by, for example, leads or lags in the general business cycle and, of course, special structural conditions such as differences in infrastructure, unemployment, the concentration of particular industries etc. These differences in the demand for public services must be met by differentiated supply policies if citizens' preferences are to be fulfilled. Federal sub-units are best able to meet this challenge. The politicians in charge are better endowed with information about the local requirements. They have the incentives to provide these services according to the preferences of the citizens because they are directly accountable for the local policy and their reelection depends on the satisfaction of the voters they represent.