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The politician and his banker — How to efficiently grant state aid

  • Hainz, Christa
  • Hakenes, Hendrik

Politicians should spend money as efficiently as possible. But what is the best method of granting state aid to firms? We use a theoretical model with firms that differ in their success probabilities and compare different types of direct subsidies with indirect subsidies through bank loans. We find that, for a large range of parameters, subsidies through banks entail higher social welfare than direct subsidies, avoiding windfall gains to entrepreneurs and economizing on screening costs. For selfish politicians, subsidizing a bank has the additional advantage that part of the screening costs are born by private banks. Consequently, from a welfare perspective, politicians use subsidized banks inefficiently often.

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Article provided by Elsevier in its journal Journal of Public Economics.

Volume (Year): 96 (2012)
Issue (Month): 1 ()
Pages: 218-225

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Handle: RePEc:eee:pubeco:v:96:y:2012:i:1:p:218-225
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