Hard Budget Constraints Research Articles

Debt Restructuring for the Eurozone

The Eurozone Debt Crisis has rekindled the debate on the nexus between currency areas and fiscal sovereigns. After the crisis, much of the intellectual and political debate has been on the benefit of a fiscal union, the idea of creating a common fiscal entity that is well equipped to make state-contingent cross-country transfers within the eurozone. Although the role of a benevolent fiscal union can in theory be welfare-improving for a currency union, it is understood that this is a highly politically constrained option, particularly in the Eurozone. Given this constraint, in this paper, we take the implausibility of fiscal union as given, and argue that debt restructuring can be a close substitute to a fiscal union, leading to welfare improvement. In contrast to a fiscal union that resorts to the government’s visible hand to move nominal resources across countries, the debt restructuring plan designs the bankruptcy rules, but it allows the invisible hand of the markets to make the choice based on context-dependent incentives. Much of the insight in this paper originates from Goodhart, Peiris and Tsomocos (2018) and Wang (2019). The authors show that debt restructuring is particularly vital in currency unions and can lead to significant welfare improvement for both the debtor and the creditor, given a hard government budget constraint. A wider implication of this paper is that for the understanding of modern monetary and financial phenomena, particularly the viability of a currency union, we simply cannot ignore the interplay of liquidity and default.

A Black-Box Reduction in Mechanism Design with Private Cost of Capital

We consider a setting in which potential buyers of an indivisible item have private and heterogeneous valuation and cost of capital. The valuation and cost of capital can be correlated with each other, but they are independent across buyers. In such a setting, a buyer's utility for the item is his valuation minus his investment cost where the investment cost is the payment for the item adjusted by the cost of capital. The cost of capital allows us to model financially constrained buyers who either borrow capital to make an investment or allocate capital across multiple projects (items). We derive the revenue- and welfare-maximizing auctions under this setting by providing a reduction from a two-dimensional mechanism design problem to a single-dimensional mechanism design problem with quasilinear buyers. We show that our reduction can be extended to multi-unit environments with demand and capacity constraints as well as general matroid environments. Our work thus presents an alternative view on modeling financial constraints. Costs of capital serve as a proxy for enforcing budget constraints softly,'' which unlike hard budget constraints, lead to tractable mechanism design problems.

The role of matching grants as a commitment device in the federation model with a repeated soft budget setting

This paper revisits the soft budget versus the hard budget constraint in federations. By extending Besfamille and Lockwood (Int Econ Rev 49:577–593, 2008), who examine a case where the soft budget is ex ante favorable, we consider a model that allows the federal government to use a matching grant as an ex post policy instrument. We establish that this instrument acts as a commitment device and may improve social welfare compared with the situation in which the government’s ex ante policy options are limited to a hard or soft budget.

Financing Costs and the Efficiency of Public-Private Partnerships

The paper compares provision of public infrastructure via public-private partnerships (PPPs) with provision under government management. Due to soft budget constraints of government management, PPPs exert more effort and therefore have a cost advantage in building infrastructure. At the same time, hard budget constraints for PPPs introduce a bankruptcy risk and bankruptcy costs. Consequently, if bankruptcy costs are high, PPPs may be less efficient than public management, although this does not result from PPPs’ higher interest costs.

The Economic Role of the Chinese Government: Between the Centralized Political System and Decentralized Markets

China’s centralized political system has tried to adapt to alien decentralized markets in the past few decades, and the economic role of government is at the centre of the adaptation. This paper compares the economic role of Chinese government now to that in the early 1990s, and finds that the Chinese government does not always adjust its economic role to accommodate market reforms. In some cases, reforms had been reluctantly allowed but reverted soon after they served the intended purposes. In the case of capital market development, the government is only willing to accept very limited changes. Financial liberalization seems to be inconsistent with China’s centralized political system because financial market volatilities can lead to uncontrollable political risks and a well-functioned capital market can impose hard budget constraints on local governments, both of which are regarded as undesirable because they will weaken state capacity.

Revenue Maximization and Ex-Post Budget Constraints

We consider the problem of a revenue-maximizing seller with m items for sale to n additive bidders with hard budget constraints, assuming that the seller has some prior distribution over bidder values and budgets. The prior may be correlated across items and budgets of the same bidder, but is assumed independent across bidders. We target mechanisms that are Bayesian incentive compatible, but that are ex-post individually rational and ex-post budget respecting. Virtually no such mechanisms are known that satisfy all these conditions and guarantee any revenue approximation, even with just a single item. We provide a computationally efficient mechanism that is a 3-approximation with respect to all BIC, ex-post IR, and ex-post budget respecting mechanisms. Note that the problem is NP-hard to approximate better than a factor of 16/15, even in the case where the prior is a point mass. We further characterize the optimal mechanism in this setting, showing that it can be interpreted as a distribution over virtual welfare maximizers. We prove our results by making use of a black-box reduction from mechanism to algorithm design developed by Cai et al. Our main technical contribution is a computationally efficient 3-approximation algorithm for the algorithmic problem that results from an application of their framework to this problem. The algorithmic problem has a mixed-sign objective and is NP-hard to optimize exactly, so it is surprising that a computationally efficient approximation is possible at all. In the case of a single item ( m =1), the algorithmic problem can be solved exactly via exhaustive search, leading to a computationally efficient exact algorithm and a stronger characterization of the optimal mechanism as a distribution over virtual value maximizers.

Managing Debt Risk Accumulation: Empirical Study on the Debt Consequences of Local Government Guarantee From China

Purpose: This paper aims to examine debt accumulation between enterprises and debt repayment of local government which is linked with local government guarantee that acts as a debt transferring mechanism. The purpose is to illustrate that it is essential to pursue a sustainable fiscal policy of local governments so that decrease debt dependence during the processes of promoting economic growth. Design/methodology/approach: The channel of how the partial debts of non-financial enterprise to be transferred into the debt repayment of local governments is explicated by the theory of soft budget constraint and the mechanism of debt transferring - local government guarantee. The feasible generalized least squares regression model is used to test the hypotheses. The sample data include debts of non-financial industries, bad loans of commercial banks and debt repayment of local governments in nineteen provinces that are published from the official database of national Ministries over the period from 2007 to 2016. Findings: The results demonstrated that there is a positive relationship between enterprise debts and the debt repayment of local governments. In addition, there is symbiotic phenomenon between corporate debts and debt repayment of local government, that is, the current patterns of industrial investment and financing of local governments may cause production overcapacity and enterprise debt accumulation on the one hand, and shift enterprise debt and bad loans to the debt repayment of local governments through the debt transferring mechanism on the other. Originality/value: This research verifies the positive relationship between enterprise’s bad loans of bank and the debt repayment of local governments through introducing debt risk transferring mechanism, and thus provides empirical evidence for central government to prohibit the debt guaranteed of local governments and to enforce hard budget constraints.

THE PROGRESSIVE RIFT OF THE EUROZONE: RISKS AND REMEDIES

Due to rigid rules, incomplete institutions and concentration on short-run fiscal discipline, economic and institutional diversity and insufficient reforms caused the progressive segmentation of the Eurozone. Insufficient integration process is due to lack of trust among member countries and the need to keep a hard budget constraint of national budgets to avoid uncontrolled inflationary pressure and moral hazard. Although understandable in the short run, this situation is causing serious economic and social costs and damages to the development of vulnerable countries. The paper enquires possible solutions to this dangerous stalemate, that could also provide useful suggestions for other countries.

The soft budget constraint problem and hard budget solution of outward reinsurance markets for providing insurance to local economy against natural disaster

We show theoretically the commitment effect of a hard budget constraint by letting many reinsurers, including small- and medium-size ones, assume reinsurance (“assume” means undertake reinsurance), instead of a single huge reinsurance company like Munich Re or Swiss Re. Even such huge reinsurance companies do not hold on by themselves. Reinsurers with limited solvency always cede reinsurance to other reinsurance companies. One of the reasons to cede to those with limited solvency is to avoid the soft budget constraint problem of a huge enterprise. It functions as a commitment of the primary insurance company to properly examine the primary contract. That is, for a huge reinsurance company, the possibility of a default occurring subsequently due to false information is low, and so there is an incentive for the primary insurance company not to properly conduct an examination, whereas for small- and medium-size reinsurers, the default risk will be high and it will, therefore, be necessary for the primary insurance company to conduct an appropriate investigation. These analyses shed light on the possibility that small local insurance companies help local society against natural disaster, if they can access international reinsurance market adequately.

Double auctions with no-loss constrained traders

Do hard budget constraints work in favour or against truth telling in double auctions? McAfee (1992) constructed a simple double auction mechanism (MDA), which is strategyproof and minimally inefficient, but may resort to dual prices, where the difference between prices is channelled as a surplus to the market maker, preventing MDA from achieving a balanced budget. We construct a variant of MDA in which no-loss constraints play a major positive role. Our variant of MDA is also strategyproof, as efficient as MDA but improves on it by achieving a balanced budget via always having a uniform price.

Organizational Forms and Incentives in Public Procurement: Natural Experiment at a Large Public Sector Organization in Russia

ABSTRACTThis article analyses how the intensification of centralized monitoring within public organization may impact incentives for efficiency in those divisions of the organization that have different levels of financial autonomy. The efficiency of divisions’ activities was estimated through their procurement effectiveness. All the divisions were classified as non-commercial units (NCU) funded by the government or as income earning units (IEU) operating in the market and having broader financial autonomy. The results show that under standard monitoring, the IEU had more efficient procurements compared to the NCU. After intensification of centralized monitoring, the differences in performance became insignificant. These findings show that stricter monitoring is efficient for organizations with soft budget constraints, while for organizations with hard budget constraints it is preferable to use more flexible regulations.

Comment on “The Current Wave of State Enterprise Reform in China: A Preliminary Appraisal”

Comment on “The Current Wave of State Enterprise Reform in China: A Preliminary Appraisal”

Government spending and revenues in Sweden 1722\u20132011: evidence from hidden cointegration

This study examines the long-run causal relationship between government revenues and spending of the Swedish economy over the period 1722–2011. The results based on hidden cointegration technique and a modified version of the Granger non-causality test, show that there exists a long-run and asymmetric relationship between government spending and government revenues. Our estimation results can be summarized into three main empirical findings. First, the government follows a hard budget constraint and soft budget constraint strategies in the case of negative and positive shocks, respectively. Second, negative shocks to the fiscal budget are removed fairly quickly compared to positive shocks. Third, bi-directional causality between revenues and expenditures offers support in favor of the fiscal synchronization hypothesis. The policy implication is that budget deficit’s reduction could be achieved through government spending cut, accompanied by contemporaneous tax controls.

Federalism, Fiscal Space, and Public Investment Spending: Do Fiscal Rules Impose Hard Budget Constraints?

The core emphasis of rules-based fiscal legislation at the subnational level in India is to achieve debt sustainability through a numerical ceiling on borrowing and the use of borrowed resources for public capital investment by phasing out revenue deficits. Using the Arellano Bond Panel estimation, this paper examines whether the application of fiscal rules has resulted in an increase in the fiscal space for public capital investment spending in major Indian states. This analysis shows that by controlling other factors, there is a negative relationship between fiscal rules and public capital investment spending at the state level during the rules-based fiscal regime.

The impact of equity ownership groups on investment: Evidence from Ukraine

We empirically investigate the impact of different ownership groups on companies’ investment in Ukraine with a novel dynamic investment model where investment is based on present and historical levels of profitability (market-to-book value of equity) and lagged investment. Groups include state, insider, non-domestic, financial and financial and industrial group (FIG) ownership. Contrary to the literature, we find that the past level of profitability significantly affects investment; the majority presence of and increases in state ownership have a negative impact on firms’ investment, as is the case for non-domestic and financial companies’ ownership. Insider and FIG ownership have no impact on investment. We explain the results by the extent of liquidity concerns (hard and soft budget constraints), measured by cash flow interacted with a dummy variable of majority ownership of the respective group, and the extent of asset stripping for the corresponding ownership group and relate them to over- and under-investment, and to the free cash flow or cash constraint hypothesis.

An Improved Approximation for k -Median and Positive Correlation in Budgeted Optimization

Dependent rounding is a useful technique for optimization problems with hard budget constraints. This framework naturally leads to negative correlation properties. However, what if an application naturally calls for dependent rounding on the one hand and desires positive correlation on the other? More generally, we develop algorithms that guarantee the known properties of dependent rounding but also have nearly bestpossible behavior—near-independence, which generalizes positive correlation—on “small” subsets of the variables. The recent breakthrough of Li and Svensson for the classical k -median problem has to handle positive correlation in certain dependent rounding settings, and does so implicitly. We improve upon Li-Svensson’s approximation ratio for k -median from 2.732 + ϵ to 2.675 + ϵ by developing an algorithm that improves upon various aspects of their work. Our dependent rounding approach helps us improve the dependence of the runtime on the parameter ϵ from Li-Svensson’s N O (1/ϵ 2 ) to N O ((1/ϵ)log(1/ϵ)) .

Federalism, Fiscal Space, and Public Investment Spending: Do Fiscal Rules Impose Hard Budget Constraints?

The core emphasis of rules-based fiscal legislation at the subnational level in India is to achieve debt sustainability through a numerical ceiling on borrowing and the use of borrowed resources for public capital investment by phasing out revenue deficits. Using the Arellano Bond Panel estimation, this chapter examines whether the application of fiscal rules has resulted in an increase in the fiscal space for public capital investment spending in major Indian states. This analysis shows that by controlling other factors, there is a negative relationship between fiscal rules and public capital investment spending at the state level during the rules-based fiscal regime.

Fiscal Federalism and States’ Economic Growth in India- An Analytical Study

Objectives: This study is aimed at analyzing various facets of Fiscal Federalism and its impact on the growth of states in India. Methods/Analysis: The Study proposes a model to test the impact of autonomy and hard budget constraints, two important features of decentralization, on the economies of the states. The model has been analyzed using the Fixed Effects Least Squares method for panel data using EViews. Findings: The results point out quite a few aspects of the impact of fiscal federalism on Indian states. The paper concludes by giving possible reasons for the negative relation between autonomy with growth and the positive relation between central grants with growth. The fact that the OwnTax ratio is negatively related to the GSDP growth rate shows that the level of autonomy of a state is negatively related to the growth of the state. The study also revealed a high dependence of the states on the grants and tax sharing mechanisms for growth. It was found that the central intervention in the states’ economy was positively related to their growth, which points to soft budget constraints on the states which depend highly on the central government to finance their spending. The overall level of decentralization was also found to be quite poor, though the relationship is not very economically significant. Applications/Improvement: The Study highlights that trade-off between the autonomy and budget constraint aspects of fiscal federalism needs to be a major concern and work area for policy makers in India.

Wladimir Andreff (Ed.), Disequilibrium Sports Economics: Competitive Imbalance and Budget Constraints

Abstract. The economics of professional team sport leagues has been built on three main pillars in the US literature: economic equilibrium for the product market and labour market for talent; profit maximisation; and competitive balance between teams (sporting equilibrium). The European literature has brought a fourth pillar: win maximisation with a hard budget constraint (break-even accounting rule). These four pillars have remained little questioned until recently. This emerging literature is one of the motivations for launching a book dealing with disequilibrium. Another is the editor’s conviction that the reality in team sport leagues does not fit with general equilibrium solutions. The first chapter introduces the previous elements and more generally the book while the seven following chapters develop a specific aspect related to disequilibrium: an attempt at modelling; a dynamic non-equilibrium simulation; the metrics of competitive imbalance; gender imbalance on the sports programme market; and the last three chapters on soft budget constraints with three different focuses (comparison between European and US leagues; governance and agency problem; regulation regarding the new UEFA club licensing and Financial Fair Play). As a whole, the book provides an original and realistic view that can and perhaps even must shape the future of sports economics. Keywords. Disequilibrium Sports Economics; Competitive Imbalance; Budget Constraints. JEL. Z20, L83, D50, L50, P20.

Problems of Reforming of Housing and Communal Services of Cities of Irkutsk Region in the 1990s

The aim of the article is the analysis of main trends and implications reforms in housing and communal services of cities of Irkutsk region in the first post-Soviet decade. The subject of research is the reform of housing and communal services, which provided a radical change from the planning and administrative methods of regulation of the housing sector to market mechanisms. The study tested hypothesized that the attempts of state authorities to entrust the accumulated problems in the industry on municipalities in isolation from the reform of public utilities, domestic service etc., and, most importantly, empowerment of local government in the pricing and quality of public services, and are unable to lead to the desired results. In the course of writing were used research methods of social phenomena in historical perspective, analyzes a variety of information sources and literature. The benefits of this study in studied publications in local, regional and central periodicals, monographs and articles, as well as statistical materials. The article concludes that the formation of the mechanisms of the sphere housing and communal services occurred in the conditions of hard budget constraints, there was a constant search of balance in the cost of housing between the population and the budget. Consequently, not enough has been worked out, and the conditions of the contractual relationship. The city authorities in some cases had no effect on the prices for heat generation and water, their transport and distribution. Ultimately, these and other problems indicated a significant difficulties in the process of reforming of housing and communal services.