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Managing Government Default Risk in Federal States

Listed author(s):
  • Jan J.G. Lemmen

Federal governments typically apply fiscal rules to impose fiscal discipline on lower levels of government. Analogously, by trading in government debt, government bond markets impose fiscal discipline on lower levels of governments. this paper finds new evidence for Australia, Canada and Germany showing that whether these rules or markets matter, or not, may be a function of the worlds appetite for credit risk. Rules and markets only tend to bite during periods when there is a low appetite for credit risk in world financial markets. Therefore, this paper proposes an alternative more incentive-based framework of fiscal discipline. this incentive-based framework should increase the sensitivity of government borrowing costs with respect to debt levels, increase the geographical diversification of investors portfolios with respect to government bonds, and prevent government financing from fuelling private sector bailout expectations.

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File URL: http://www.lse.ac.uk/fmg/documents/specialPapers/1990s/sp116.pdf
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Paper provided by Financial Markets Group in its series FMG Special Papers with number sp116.

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Date of creation: Aug 1999
Handle: RePEc:fmg:fmgsps:sp116
Contact details of provider: Web page: http://www.lse.ac.uk/fmg/

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  1. Maurice Obstfeld & Kenneth S. Rogoff, 1996. "Foundations of International Macroeconomics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262150476, July.
  2. Robert N McCauley, 1999. "The Euro and the Liquidity of European Fixed Income Markets," CGFS Papers chapters,in: Bank for International Settlements (ed.), Market Liquidity: Research Findings and Selected Policy Implications, volume 11, pages 1-26 Bank for International Settlements.
  3. Bishop, Graham, 1998. "The European Central Bank and the Prudential Regulation of the Financial System," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 3(1), pages 13-20, January.
  4. Morris Goldstein & Geoffrey Woglom, 1991. "Market-Based Fiscal Discipline in Monetary Unions; Evidence From the U.S. Municipal Bond Market," IMF Working Papers 91/89, International Monetary Fund.
  5. 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.
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