ON THE OPTIMAL STRUCTURE OF LOCAL GOVERNMENTS

We show that space matters in designing the optimal provision of local public goods (LPG's). Geography imposes a particular institutional st ructure of local governments due to the overlapping of market areas as sociated with different LPG's, The optimum can be decentralized throug h local governments that have jurisdiction over market areas of all LP G types. This implies that the appropriate suppliers of LPG's are metr opolitan governments which finance them through user charges and land rent. in addition, our approach invalidates the prevailing theory of f iscal federalism, according to which a layer of government should be e stablished for each type of LPG.