This article analyzes the relationship between the mix of cash transfers and in-kind goods provided by local governments and the local population size and individual preferences. On theoretical grounds, the traditional theory of fiscal federalism and recent contributions on both the local jurisdictions and the breaking up of nations assume that (subcentral) governments provide a single public good, ignoring expenditure composition. However, central and local governments provide both cash and in-kind goods. We propose a simple theoretical model assuming that local governments provide a composite good, formed by money transfers and in-kind services, and that preferences vary across population due to different individual income levels. Normative and positive outcomes are derived and compared assuming a centrally determined expenditure ceiling. Measures designed to move the actual policy mix closer to the optimal one are envisaged. A scenario characterized by a fully decentralized two-step decision process is also analyzed.
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