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Determinants and Consequences of Bailing Out States in Mexico

  • Fausto Hernandez Trillo


    (Centro de Investigacion y Docencia Economica A.C.)

  • Alberto Diaz Cayeros

    (Centro de Investigacion para el Desarrollo)

  • Rafael Gamboa Gonzalez

    (Banco de Mexico)

This paper identifies and analyzes the determinants and consequences of bailing out states, in particular, those observed in Mexico. This case is important because lessons can be obtained for other LDCs. Bailouts of lower-level governments have not been the object of much research in economics. This work suggests that the explicit generalized bailout carried out by the federal government in Mexico in 1995 created a moral hazard problem. The existing institutional-legal framework is not adequate, because it provides incentives for states to borrow and for banks to lend without evaluating the risk of the project. Likewise, the importance of the state (size) is a major determinant in providing bailout transfers. Also, the more a state government is in fiscal need when the state government is incapable of adjusting its expenditure, the more likely the state is to get an extraordinary transfer during the period of study. On the other hand, political variables are not an important determinant of a bailout, except, perhaps, when there are state elections. We also show that excessive indebtedness of local states may have equity implications as well: bailouts tend to be highly regressive, as the poorer –low indebted- states receive much less in extraordinary resources.

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Article provided by Eastern Economic Association in its journal Eastern Economic Journal.

Volume (Year): 28 (2002)
Issue (Month): 3 (Summer)
Pages: 365-380

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Handle: RePEc:eej:eeconj:v:28:y:2002:i:3:p:365-380
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  1. Goodhart, C A E, 1987. "Why Do Banks Need a Central Bank?," Oxford Economic Papers, Oxford University Press, vol. 39(1), pages 75-89, March.
  2. von Hagen, Jurgen & Eichengreen, Barry, 1996. "Federalism, Fiscal Restraints, and European Monetary Union," American Economic Review, American Economic Association, vol. 86(2), pages 134-38, May.
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