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Soft Budget Constraint Theories: From Centralization to the Market

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  • Maskin, Eric
  • Xu, Cheng-Gang

Abstract

This Paper surveys the theoretical literature on the effect of soft budget constraints (SBC) on economies in transition from centralization to capitalism; it also reviews our understanding of SBC in general. It focuses on the conception of the SBC syndrome as a commitment problem. We show that the two features of SBC in centralized economies ex post renegotiation of firms’ financial plans and a close administrative relationship between firms and the centre are intrinsically related. We examine a series of theories (based on the commitment-problem approach) that explain shortage, lack of innovation in centralized economies, devolution, and banking reform in transition economies. Moreover, we argue that SBC also bear on major issues in economics, such as the determination of the boundaries and capital structure of a firm. Finally, we show that SBC theory sheds light on financial crises and economic growth.

Suggested Citation

  • Maskin, Eric & Xu, Cheng-Gang, 2001. "Soft Budget Constraint Theories: From Centralization to the Market," CEPR Discussion Papers 2715, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:2715
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    Keywords

    Banking and Finance; Centralized Economy; Renegotiation; Soft Budget Constraint; Theory of the Firm; Transition;

    JEL classification:

    • D20 - Microeconomics - - Production and Organizations - - - General
    • D80 - Microeconomics - - Information, Knowledge, and Uncertainty - - - General
    • G20 - Financial Economics - - Financial Institutions and Services - - - General
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • H70 - Public Economics - - State and Local Government; Intergovernmental Relations - - - General
    • L20 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - General
    • O30 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights - - - General
    • P20 - Economic Systems - - Socialist Systems and Transition Economies - - - General
    • P30 - Economic Systems - - Socialist Institutions and Their Transitions - - - General

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