What is it about?
How is the probability of a sovereign debt crisis affected by fiscal devolution? Using annual cross-country panel data from 82 advanced and developing countries, the association between fiscal decentralization and the sovereign debt crisis is investigated. We adopt an instrumental variable probit model to address potential endogeneity. The research distinguishes between tax policies and spending policies.
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Why is it important?
Many countries have multiple tiers of government, and various public goods are provided by different levels of government. Many public services are decentralized to subnational governments, with intergovernmental transfers from the central government occurring worldwide. Fiscal decentralization is also a policy change in developing countries that is frequently advocated for by international agencies and bilateral donors. However, studies on how the intergovernmental relationship associated with fiscal devolution affects fiscal sustainability are relatively scarce, although sustainable fiscal operations are one of the main objectives of the government. Therefore, this research studies how fiscal devolution influences the probability of a sovereign debt crisis.
Perspectives
The results reveal that local tax autonomy reduces the probability of a sovereign debt crisis. In contrast, expenditure devolution is found to increase the probability of a sovereign debt crisis. These favorable and unfavorable effects of fiscal devolution are more evident in the case of decentralization to local governments than in the case of decentralization to subnational governments. In terms of relative magnitudes, our discrete choice analysis demonstrates that the undesirable effects of expenditure decentralization are greater than the desirable effects of tax revenue decentralization. Therefore, countries should be cautious about the risks associated with fiscal devolution, particularly the contrasting impact of tax revenue and spending decentralization on the likelihood that sovereign debt crises occur.
Dr. Ryota Nakatani
International Monetary Fund
Read the Original
This page is a summary of: Sovereign Debt Crisis and Fiscal Devolution, Journal of Risk and Financial Management, December 2023, MDPI AG,
DOI: 10.3390/jrfm17010009.
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