IDEAS home Printed from https://ideas.repec.org/a/kap/itaxpf/v9y2002i4p409-421.html
   My bibliography  Save this article

Bailouts in a Federation

Author

Listed:
  • Timothy Goodspeed

    ()

Abstract

The recent move towards decentralization in countries such as Spain, Hungary, and South Africa and the difficulties that central governments have had in dealing with fiscal irresponsibility on the part of regional governments in countries such as Argentina, Brazil, and India has made the study of transfer systems one of the most important areas of research in federalism today. A model of a federation is developed in which regional governments act as Nash competitors with each other but are first-movers in a Stackelberg game with the central government. The central government finds that it will maximize its expected votes by increasing transfers as regions borrow. This bail out of regional governments creates a regional soft budget constraint and results in two incentive effects, a common pool effect on tax payments and an opportunity cost effect. The soft budget constraint lowers the opportunity cost of borrowing for the region, but also increases the tax-cost since a portion of the borrowing must be paid for through increased taxes. The common property problem associated with tax payments implies that the increased tax cost must be less than the decrease in the opportunity cost (leading to excessive borrowing) unless the central government increases grants to other regions when it institutes a bailout. Somewhat surprisingly, in the latter case the additional increased taxes may increase costs enough to offset the lower opportunity cost resulting from the bailout, leading to efficient borrowing decisions as in the case of a hard budget constraint. The results are also useful for understanding the empirical estimation of soft budget constraints. Copyright Kluwer Academic Publishers 2002

Suggested Citation

  • Timothy Goodspeed, 2002. "Bailouts in a Federation," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 9(4), pages 409-421, August.
  • Handle: RePEc:kap:itaxpf:v:9:y:2002:i:4:p:409-421
    DOI: 10.1023/A:1016563902580
    as

    Download full text from publisher

    File URL: http://hdl.handle.net/10.1023/A:1016563902580
    Download Restriction: Access to full text is restricted to subscribers.

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Wildasin, David E., 1997. "Externalities and bailouts : hard and soft budget constraints in intergovernmental fiscal relations," Policy Research Working Paper Series 1843, The World Bank.
    2. Qian, Yingyi & Roland, Gerard, 1998. "Federalism and the Soft Budget Constraint," American Economic Review, American Economic Association, vol. 88(5), pages 1143-1162, December.
    3. Robin W. Boadway & Frank R. Flatters, 1982. "Efficiency and Equalization Payments in a Federal System of Government: A Synthesis and Extension of Recent Results," Canadian Journal of Economics, Canadian Economics Association, vol. 15(4), pages 613-633, November.
    4. Andres Velasco, 1999. "A Model of Endogenous Fiscal Deficits and Delayed Fiscal Reforms," NBER Chapters,in: Fiscal Institutions and Fiscal Performance, pages 37-58 National Bureau of Economic Research, Inc.
    5. Massimo Bordignon, 2000. "Problems of Soft Budget Constraints in Intergovernmental Relationships: The Case of Italy," Research Department Publications 3099, Inter-American Development Bank, Research Department.
    6. Teresa Garcia-Milà & Timothy J. Goodspeed & Therese J. McGuire, 2001. "Fiscal decentralization policies and sub-national government debt in evolving federations," Economics Working Papers 549, Department of Economics and Business, Universitat Pompeu Fabra, revised May 2002.
    7. von Hagen, Jurgen, 1991. "A note on the empirical effectiveness of formal fiscal restraints," Journal of Public Economics, Elsevier, vol. 44(2), pages 199-210, March.
    8. Winer, Stanley L, 1983. "Some Evidence on the Effect of the Separation of Spending and Taxing Decisions," Journal of Political Economy, University of Chicago Press, vol. 91(1), pages 126-140, February.
    9. DelRossi, Alison F. & Inman, Robert P., 1999. "Changing the price of pork: the impact of local cost sharing on legislators' demands for distributive public goods," Journal of Public Economics, Elsevier, vol. 71(2), pages 247-273, February.
    10. Caplan, Arthur J. & Cornes, Richard C. & Silva, Emilson C. D., 2000. "Pure public goods and income redistribution in a federation with decentralized leadership and imperfect labor mobility," Journal of Public Economics, Elsevier, vol. 77(2), pages 265-284, August.
    11. James M. Poterba & Jürgen von Hagen, 1999. "Fiscal Institutions and Fiscal Performance," NBER Books, National Bureau of Economic Research, Inc, number pote99-1, July.
    Full references (including those not matched with items on IDEAS)

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:kap:itaxpf:v:9:y:2002:i:4:p:409-421. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Sonal Shukla) or (Rebekah McClure). General contact details of provider: http://www.springer.com .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.