An Anatomy of Governance Failures in Municipal Bankruptcy

Abstract

Abstract Purpose This study attempts to analyze the role of governance mechanisms in municipal bankruptcy, which appears to be a neglected area of research. The analysis considers both the organizational level (micro) and the regulatory system (macro). Methodology/approach We use a relevant case of municipal bankruptcy in Italy to discuss the influence of governance characteristics, such as the political and management structure, interaction, and behaviors. The issues related to the accounting system and external audits are also considered. The data for this study are obtained from secondary sources such as audited budgetary reports, public documents, and reports from the Supreme Audit Institution. Findings The study indicates that the spoils system can favor the politicians’ exercise of power over public managers and undermine the capacity to prevent and manage financial distress. Poor accounting and weak control systems may facilitate this process. The high turnover of top management throughout a mayor’s term in office may reflect political pressure to force accounting rules and achieve flexibility to obtain the expected results or to correct poor financial performance. Practical implications To avert municipal bankruptcies, regulations should consider enforcing ex ante control by external oversight bodies, forbidding risky operations and limiting the spoils system for financial management positions and internal auditors. Originality/value Municipal defaults around the world have indicated that regulations and audits are ineffective to prevent local governments from failing. A full understanding of complex mutual interactions between the mechanisms of governance and the behaviors of politicians and managers can provide valuable insights to prevent local governments from failing.