Assessment of financial conditions of South African municipalities: a unique model for KwaZulu-Natal

Abstract

Most South African municipalities experience significant financial problems. This study investigates the financial conditions of municipalities in the province of KwaZulu-Natal (KZN). It was found that the most important factors which influence their financial position are unobservable municipally unique factors. The ratio of people of non-working age to the total population is also significant in influencing the financial position of municipalities. This article designed a unique financial conditions measurement framework to evaluate the financial status of local governments. Two independent instruments were developed, first to measure the financial quality of a municipality, and secondly, to identify and examine a number of socio-economic factors possibly affecting the financial condition of these municipalities. The study developed a composite financial condition index (CFCI) and a financial conditions management index (FCMI), and then tested the framework on 51 municipalities in the KZN province from 2009 to 2015. The study used a panel data approach with two financial condition indices as indicators. The findings suggest that, in the absence of individual effects, most of the selected socio-economic variables are relevant in terms of explaining some of the variations in municipal financial conditions. Cross-section fixed-effects do, however, significantly improve the overall performance of the model, suggesting that it is rather the unobservable municipally unique factors affecting municipal financial conditions.

Keywords: municipalities; financial conditions; panel data econometrics; fixed-effects; local government; public finance; South Africa