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Institutionalized Bailouts and Fiscal Policy: The Consequences of Soft Budget Constraints

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  • Alexander Fink
  • Thomas Stratmann

Abstract

States have soft budget constraints when they can expect a bailout by the federal government in the event of a financial crisis. This gives rise to incentives for unsound state fiscal policy. We test whether states with softer budget constraints have higher debt and deficits, receive more bailouts funds, spend funds less efficiently, and are more likely to allocate funds to programs benefiting special interests. Exogenous variation in soft budget constraints across states and over time allows the identification of budget constraint softness on state fiscal policy. We take advantage of the fact that in Germany, states’ political influence is exogenous because voting weights differ in the upper chamber of the German parliament. The stronger the political influence of states, the softer their budget constraints. We show that states with softer budget constraint have higher deficits and debts, and receive more bailouts funds. Further, overrepresented states are less efficient in spending public funds and are more prone to respond to rent seeking by interest groups.

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  • Alexander Fink & Thomas Stratmann, 2009. "Institutionalized Bailouts and Fiscal Policy: The Consequences of Soft Budget Constraints," CESifo Working Paper Series 2827, CESifo.
    • Handle: RePEc:ces:ceswps:_2827
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    Cited by:

    1. Foremny, Dirk & Solé-Ollé, Albert, 2016. "Who's coming to the rescue? Revenue-sharing slumps and implicit bailouts during the Great Recession," ZEW Discussion Papers 16-049, ZEW - Leibniz Centre for European Economic Research.
    2. Foremny, Dirk, 2014. "Sub-national deficits in European countries: The impact of fiscal rules and tax autonomy," European Journal of Political Economy, Elsevier, vol. 34(C), pages 86-110.
    3. Vasvári, Tamás, 2019. "Decentralizáció és költségvetési korlát. Miért fontos, hogy a haszonélvezők viseljék a költségeket? [Decentralization and budget constraints. Why should costs be borne by those benefiting from them," Közgazdasági Szemle (Economic Review - monthly of the Hungarian Academy of Sciences), Közgazdasági Szemle Alapítvány (Economic Review Foundation), vol. 0(9), pages 932-959.
    4. Frank, Marco & Stadelmann, David, 2021. "More federal legislators lead to more resources for their constituencies: Evidence from exogenous differences in seat allocations," Journal of Comparative Economics, Elsevier, vol. 49(1), pages 230-243.
    5. Dietrichson, Jens & Ellegård, Lina Maria, 2015. "Assist or desist? Conditional bailouts and fiscal discipline in local governments," European Journal of Political Economy, Elsevier, vol. 38(C), pages 153-168.
    6. Lars P. Feld, 2010. "Sinnhaftigkeit und Effektivität der deutschen Schuldenbremse," Perspektiven der Wirtschaftspolitik, Verein für Socialpolitik, vol. 11(3), pages 226-245, August.
    7. Ábel, István & Mérő, Katalin, 2024. "A bankszabályozás lehetőségei és korlátai az endogén pénzelmélet keretében. A bankok puha költségvetési korlátja [Possibilities and limits of banking regulation in the endogenous money theory frame," Közgazdasági Szemle (Economic Review - monthly of the Hungarian Academy of Sciences), Közgazdasági Szemle Alapítvány (Economic Review Foundation), vol. 0(6), pages 604-623.
    8. Allers, Maarten & Merkus, Erik, 2013. "Soft budget constraint but no moral hazard? The Dutch local government bailout puzzle," Research Report 13014-EEF, University of Groningen, Research Institute SOM (Systems, Organisations and Management).
    9. Paul J.J. Welfens, 2012. "Towards a Euro Fiscal Union: Reinforced Fiscal and Macroeconomic Coordination and Surveillance is Not Enough," EIIW Discussion paper disbei191, Universitätsbibliothek Wuppertal, University Library.
    10. Heinemann, Friedrich & Janeba, Eckhard & Moessinger, Marc-Daniel & Schröder, Christoph, 2013. "Revenue autonomy preference in German state parliaments," ZEW Discussion Papers 13-090, ZEW - Leibniz Centre for European Economic Research.
    11. János Kornai, 2014. "The soft budget constraint," Acta Oeconomica, Akadémiai Kiadó, Hungary, vol. 64(supplemen), pages 25-79, November.
    12. Rosella Levaggi & Francesco Menoncin, 2013. "Soft budget constraints in health care: evidence from Italy," The European Journal of Health Economics, Springer;Deutsche Gesellschaft für Gesundheitsökonomie (DGGÖ), vol. 14(5), pages 725-737, October.
    13. Kornai, János, 2014. "Bevezetés A puha költségvetési korlát című kötethez [Introduction to the author s volume entitled Soft Budget Constraint]," Közgazdasági Szemle (Economic Review - monthly of the Hungarian Academy of Sciences), Közgazdasági Szemle Alapítvány (Economic Review Foundation), vol. 0(7), pages 845-897.
    14. Benny Geys & Rune J. Sørensen, 2020. "Administrative Delegation of Budgetary Powers and Fiscal Performance," Kyklos, Wiley Blackwell, vol. 73(4), pages 477-499, November.
    15. Maaser, Nicola & Stratmann, Thomas, 2016. "Distributional consequences of political representation," European Economic Review, Elsevier, vol. 82(C), pages 187-211.
    16. Aronsson, Thomas & Micheletto, Luca & Sjögren, Tomas, 2014. "A note on public goods in a decentralized fiscal union: Implications of a participation constraint," Journal of Urban Economics, Elsevier, vol. 84(C), pages 1-8.
    17. Aronsson, Thomas, 2010. "Optimal income taxation and decentralized fiscal federalism," Regional Science and Urban Economics, Elsevier, vol. 40(4), pages 187-195, July.
    18. repec:dgr:rugsom:13014-eef is not listed on IDEAS

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    More about this item

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy
    • H11 - Public Economics - - Structure and Scope of Government - - - Structure and Scope of Government
    • H70 - Public Economics - - State and Local Government; Intergovernmental Relations - - - General

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