Although a multiplicity of local governments is often regarded as promoting efficiency in the supply of public services, political fragmentation can generate economies of scale and externality problems. Several exogenous solutions, including the creation of overlapping districts governments, consolidation of existing units and establishment of a metropolitan government, or direct state or federal intervention, have been offered. We argue that cooperative governance offers a potential endogenous solution to this dilemma. By combining transaction cost and social exchange theories within the institutional collective action framework, we investigate how local governments themselves address inefficiencies from externalities and economies of scale. An empirical analysis of Georgia cities reports that while cities’ choice of service collaboration is affected by the transaction characteristics of services, their level of service collaboration is greatly influenced by the previous exchange that builds trust and by the level of fiscal pressure they face.
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