Amalgamation of Icelandic Municipalities, Average Cost, and Economic Crisis: Panel Data Analysis

Abstract

This study investigated the amalgamation of the municipalities in Iceland and its impact on expenses, classified by 12 different affairs. An earlier paper suggested that the average cost is lower for larger municipalities than for smaller ones in Iceland. The present study, however, tested whether the average cost of municipalities becomes lower following their amalgamations by implementing a new approach. Instead of estimating the presence of scale economies, dummy variables are used to detect the changes of average cost following the amalgamation. With this approach, the analysis separates effects traced to ordinary population change from population change caused by municipality amalgamations. Furthermore, it also tested the impact of municipality geographical size (in km²), local population, distance from Reykjavík, and number of urban communities within each municipality on the average cost. Since the data include several years prior to the economic crisis in 2008 and several years after, it was feasible to test the real return of the local government retrenchment because of the crisis. The prior study was implemented on data for average cost of all municipalities’ affairs in the year 2006. The present study was based on the average cost for all municipalities’ affairs during the period of 2004-2010. Panel data analysis was implemented. The paper suggests that the average cost has become lower following amalgamations in industrial and cultural affairs. Those affairs, however, only generate about 5% of municipalities’ total costs. Accordingly, the impact is thus rather limited in terms of cost. Moreover, larger municipalities have lower average cost than smaller ones in all affairs except for social service.