State Government Hedging Using Financial Derivatives

Abstract

IN examining the use of financial de? rivative contracts to manage risk, the typical analysis involves the hedging strategies of firms or individuals. In contrast, this article considers the potential use of de? rivatives to hedge macroeconomic risk in the public sector. Specifically, the analysis focuses on one of the largest risks faced by the public sector: volatility in tax revenue. Two issues of current interest are addressed: the potential evolution toward futures contracts based on macroeconomic indicators and the recent revenue shortfalls of individual states.