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A Visible Hand? Bond Markets, Political Parties, Balanced Budget Laws, and State Government Debt

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  • Robert C. Lowry
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    Abstract

    Recent empirical work demonstrates that fiscal institutions in American states have real effects on state government bond rates, but the causal mechanisms have not been identified. We show how laws that restrict state governments' ability to carry forward a deficit improve the ability of investors to extract information from noisy signals. This affects the response of bond markets to repeated deficits in states that have these laws. We argue that partisan preferences for higher spending also increase risk for investors, leading to higher interest rates. We provide empirical support for our hypotheses using data from 1973-1995. Copyright Blackwell Publishers Ltd.

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    Bibliographic Info

    Article provided by Wiley Blackwell in its journal Economics and Politics.

    Volume (Year): 13 (2001)
    Issue (Month): 1 (03)
    Pages: 49-72

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    Handle: RePEc:bla:ecopol:v:13:y:2001:i:1:p:49-72

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    Cited by:
    1. Osterloh, Steffen & Heinemann, Friedrich & Kalb, Alexander, 2013. "Sovereign risk premia: The link between fiscal rules and stability culture," Annual Conference 2013 (Duesseldorf): Competition Policy and Regulation in a Global Economic Order 80043, Verein für Socialpolitik / German Economic Association.
    2. Gebhard Kirchgässner, 2001. "The Effects of Fiscal Institutions on Public Finance: A Survey of the Empirical Evidence," CESifo Working Paper Series 617, CESifo Group Munich.
    3. Jeffrey Clemens & David M. Cutler, 2013. "Who Pays for Public Employee Health Costs?," NBER Working Papers 19574, National Bureau of Economic Research, Inc.
    4. Andersen, Asger Lau & Lassen, David Dreyer & Nielsen, Lasse Holbøll Westh, 2014. "The impact of late budgets on state government borrowing costs," Journal of Public Economics, Elsevier, vol. 109(C), pages 27-35.
    5. Lars P. Feld & Alexander Kalb & Marc-Daniel Moessinger & Steffen Osterloh, 2013. "Sovereign bond market reactions to fiscal rules and no-bailout clauses – The Swiss experience," Working Papers 2013/27, Institut d'Economia de Barcelona (IEB).
    6. Clemens, Jeffrey, 2013. "State Fiscal Adjustment During Times of Stress: Possible Causes of the Severity and Composition of Budget Cuts," MPRA Paper 55921, University Library of Munich, Germany.
    7. Heiko T. Burret & Lars P. Feld, 2014. "A Note on Budget Rules and Fiscal Federalism," CESifo DICE Report, Ifo Institute for Economic Research at the University of Munich, vol. 12(1), pages 03-11, 04.

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