Economic Policy Uncertainty, Social Financing Scale and Local Fiscal Sustainability: Evidence from Local Governments in China

Abstract

The motivation for this paper is to investigate a previously unexplored exogenous shock to fiscal sustainability from economic policy uncertainty. To control for the impact of local government institutional and cultural factors on fiscal sustainability, we select data from 30 Chinese provinces for the 2012–2020 period for empirical analysis. We find that economic policy uncertainty shocks have a robust negative effect on fiscal sustainability after controlling for endogeneity. Economic policy uncertainty has an impact on fiscal sustainability mainly through the mediating variable of the social financing scale. To cope with the impact of uncertain economic policies, corporations reduce the scale of investment and financing, and residents have defensive savings motivations, reducing consumption and increasing savings. Therefore, economic policy uncertainty can lead to a reduction in the social financing scale. A reduction in the social financing scale can reduce government revenue and increase the debt scale. Ultimately, this leads to a decrease in the fiscal sustainability of local governments. This paper can provide a theoretical reference for reducing the negative impact of government policy adjustments and improving fiscal sustainability.