Fiscal decentralization and convergence in government spending in Malaysia

In this study, we highlight the influence of the federal system on the development expenditure of the states, which is crucial for socio‐economic development. First, we examine whether there is a convergence in development expenditure across Malaysian states. Second, we investigate the importance of decentralization in affecting the pattern of development expenditure in the short‐term and in the long‐term. The convergence analysis utilizes annual growth data from 2000 through 2015 for the short‐term and the averages of 3‐ and 5‐year growth for the long‐term. In this study, we employ the panel data approaches of pooled OLS, fixed effects and random effects estimation procedures. The findings provide empirical evidence of the convergence of development expenditure across the states in Malaysia in both the short‐term and the long‐term. Generally, all fiscal decentralization indicators (state per capita revenue, state own‐source per capita revenue, state own‐source revenue as a share of total revenue and inter‐state fiscal capacity) are imperative in influencing the fiscal behaviour of state governments in Malaysia. These indicators, as well as assistance from the federal government in the form of transfer payment, are very much needed to strengthen the expenditure capacity of the Malaysian states.