Globalization, Decentralization, and the Subnational Debt Problem

Abstract

According to the World Bank, decentralization of government is a pivotal force that will shape global development policy in the 21st Century. Subnational debt restructuring has emerged, however, as one of decentralization's most difficult problems. Financially troubled municipalities face many of the same concerns, for example, as financially troubled nations: holdout creditors can stymie collective attempts at debt restructuring, and reliance on politically-motivated lenders of last resort (the International Monetary Fund in the case of troubled nations, the central government in the case of troubled municipalities) can foster moral hazard. In a recent article, I argued that an international convention for sovereign debt restructuring based on several fundamental principles of bankruptcy reorganization law can effectively address these concerns for nations. In this article, I argue that similar principles can even more easily be applied to the financial problems of subnational governments. To this end, I propose a model law based on these principles that might form the foundation for national laws, informed by local political and legal culture. Then, using the Japanese municipal crisis as an example, I show that countries enacting such a law can prudently and equitably resolve their subnational debt burdens.