The decentralization policy of President Lee Jae-myung, who is a former local government chief, is expected to start with the expansion of the grant-in-aid (non-earmarked tax). Currently, 19.24% of the national tax is allocated as grant-in-aid (non-earmarked tax), and the plan is to increase this ratio to enhance local fiscal autonomy. While local governments' finances will improve, the central government's financial burden will inevitably increase.
President Lee also stated that he would prevent inter-account transfers between accounts and funds. This is intended to increase the transparency of financial execution. While it could encourage funds to be used for their intended purposes, there are concerns that it may lead to inflexible financial management, as excess funds would not be usable where needed.
During the presidential campaign, President Lee promised to significantly expand local finances as part of strengthening fiscal decentralization. He proposed the expansion of the grant-in-aid (non-earmarked tax) as a specific method. However, he has yet to present exact figures on how much the grant-in-aid (non-earmarked tax) will be increased.
The grant-in-aid (non-earmarked tax) is a financial aid provided by the central government to local governments necessary for the administration of basic administrative services, aimed at reducing financial disparities among local governments.
According to the Local Grant-in-Aid Act, the current grant-in-aid (non-earmarked tax) is allocated 19.24% of the national tax collected by the central government. Last year, 64 trillion won was assigned as grant-in-aid (non-earmarked tax).
President Lee has continuously demanded the expansion of the grant-in-aid (non-earmarked tax) since his time as the mayor of Seongnam. In 2016, he staged a hunger strike for ten days in Gwanghwamun Square in Seoul. At that time, the Ministry of Interior changed the distribution method of adjustment grants for city and county local governments, which resulted in a budget cut of 800 billion won for six local governments in Gyeonggi Province, including Seongnam, that would have been able to manage without receiving the grant-in-aid (non-earmarked tax). When Seongnam City promoted its three free welfare policies including youth allowances, free school uniforms, and free postpartum care, the government designated Seongnam as a local government that does not receive grant-in-aid (non-earmarked tax), according to then-Mayor Lee Jae-myung.
Local governments can only welcome the expansion of the grant-in-aid (non-earmarked tax) from the Lee Jae-myung administration. The fiscal independence rate, which indicates the ability of local governments to support themselves, peaked at 57.6% in 2001 but has been on a downward trend since. This year, the fiscal independence rate of local governments is 48.6%.
While increasing the grant-in-aid (non-earmarked tax) will improve local governments' finances, it means that the central government must tighten its belt accordingly.
According to the Ministry of Economy and Finance, the national tax revenue for 2024 is projected to be 336.5 trillion won, of which 218.4 trillion won is to be used as funds for local transfers. Local transfer funds include grant-in-aid (non-earmarked tax), education grants (20.27% of national tax, 64.62 trillion won), and local government finance subsidies (approximately 90 trillion won, based on budget).
Excluding local transfer funds, the amount available for the central government is only 118.1 trillion won. The ratio of national tax to local government tax is 77 to 23, but when looking at the available fund ratio, it reverses to 35 (central) to 65 (local).
Amid the central government's financial crisis, there are concerns that simply increasing the grant-in-aid (non-earmarked tax) rate could further exacerbate fiscal imbalances.
It remains to be seen whether President Lee's promised "restriction on fund transfers between accounts and funds" will actually be implemented.
In the meantime, the central government has put funds into accounts or, conversely, sent funds from accounts to minimize the issuance of deficit government bonds. Particularly, with large-scale tax revenue failures occurring in 2023 and 2024, it has reduced the deficits by drawing from the Public Capital Management Fund and the Foreign Exchange Equalization Fund or delaying payments to other funds. They have even touched the industrial accident insurance fund designed to compensate laborers for workplace accidents and the housing and urban fund consisting of savings contributions made by citizens.
There have been significant voices of concern about this type of fund-account diversion. The National Assembly Futures Institute pointed out that "there are concerns that the resources for stabilizing the foreign exchange market will be eroded in the process of utilizing the foreign exchange equalization fund in response to tax revenue shortfalls and financial crises."
While President Lee's idea is to prevent the diversion of these funds and accounts and ensure transparent management, if this is blocked, it would force the issuance of deficit government bonds whenever there is a shortage in tax revenue, which could worsen the country's financial soundness.
A Ministry of Economy and Finance official stated, "The resources for government bond interest come from taxpayers," adding that "it was to reduce the burden on citizens and to manage funds efficiently that transfers between accounts and funds were allowed; if this process is blocked, debt will only increase."