How Does Institutional Quality Affect the Efficiency of Local Government? An Assessment of Italian Municipalities

The aim of this study is to examine the role of institutional quality and its pillars on the cost efficiency of social services provided by local governments in Italy. To this end, a new advancement of panel cost stochastic frontier analysis is utilized to estimate how much institutional quality impacts cost inefficiency, taking into account the endogeneity between the output produced and the relative cost. The study analyzes a large sample of Italian municipalities from ordinary regions in a panel setting spanning from 2015 to 2018. The findings indicate that low institutional quality has a negative impact on the cost efficiency of municipalities. However, this negative effect may not be adequately detected if institutional quality is treated as exogenous or if endogeneity is not handled appropriately. Additionally, the study examines different components of institutional quality to determine which pillars are most crucial for the performance of municipalities and to derive policy-relevant insights