The Wall Street Journal (June 8, 2011) has a very interesting and balanced article on local government consolidation efforts in Michigan. This issue comes up periodically, particularly when statewide officials are looking for ways to save money. Republicans and Democrats are typically on board with consolidation, but for different reasons.
Republicans like the idea because consolidation appears at first to be a fiscally conservative position. The main idea is intuitively plausible, even if simplistic: reducing the number of local government should allows them to reduce costs by reducing duplication of services and taking advantage of scale economies.
Democrats like the idea because consolidation allows them to more effectively redistribute funds to target populations and areas they believe get short-changed by metropolitan balkanizatin where wealth migrates outside the urban core.
Also, the reality is the Democrats are closer to reality than Republicans. Costs savings simply don't materialize because the bureacracies and political compromises necessary to make consolidation work eat away all the efficiencies. What we get, in the end, is bigger, less responsive government (but typically more in tune with redistributionist urban political sensitivies).
But, the truth is consolidation of some services might actually make sense. The question is not whether to consolidate, but what services need to be reorganized and at what level of government. Some services need to be provided at the neighborhood level (e.g., beat leve law enforcement) and some need to be regional (much of transportation). Assuming one size fits all--all local or all regional--simply doesn't get us to a better answer to the questions of public service efficiency. This is also the crucial question asked by Ron Oakerson in his masterful and insightful book Governing Local Public Economies. I highly recommend it to anyone interested in this issue.