Does competition for capital discipline governments? Decentralization, globalization and public policy

Many political economists believe that competition among countries—or regions within them—to attract mobile capital disciplines their governments, motivating them to invest more in infrastructure, reduce waste and corruption, and spend less on non-productive public goods. The result should be convergence on business-friendly policies and clean government. This expectation informs debates on both political decentralization and globalization. We argue that it requires an assumption— countries or regions start out very similar—that is often unrealistic. We show that if units are sufficiently heterogeneous (in natural resources, geographical location, inherited human capital or infrastructure), capital mobility often weakens discipline on the poorly-endowed units and increases policy divergence. This may help explain disappointing results of liberalizing capital flows within the Russian federation and subSaharan Africa.