Local Debt Research Articles

Comment on “Local Government Debt and Firm Leverage: Evidence from China”

There has been a great deal of discussion of China's four trillion yuan stimulus policy and the side effects it has caused: overcapacity, rising local government debt, and non-performing loans, even air pollution. What is less is clear are the mechanisms through which the stimulus policy has affected different types of firms, state-owned enterprises (SOEs) and non-state-owned enterprises, for example. Liang et al. (2017) find that local government debt in China has increased rapidly after the global financial crisis, and, at the same time, the leverage level of SOEs has climbed, while that of the non-SOEs has declined. They argue that this implies a correlation between local government debt and firm leverage. Because the local governments become major investors and their investments are mainly financed by borrowing in the financial markets, the local government debt has “crowed out” private lending, and, at the same time, “crowded in” SOE lending, thus causing a deterioration in the credit misallocation in China. According to standard macroeconomic theory, when a government increases borrowing to finance public spending, it will drive up interest rates. These higher interest rates are likely to discourage private sector lending and investment. Liang et al. provide a broader view of the “crowding out” effect. They identify two channels through which local government debt may affect firm level borrowing activities: one is the traditional financing cost channel through the credit market; and the other is a reallocation channel through government intervention. Liang et al. study these two channels and find that the second channel is more important. China has not fully liberalized her financial markets and interest rates are still not determined by market clearing. The government has close ties with the financial market and can influence the borrowing decision of market players in a very profound way. Liang et al. have not opened this “black box”, but their study can shed some light on what is happening in China and may stimulate more studies in this area. Liang et al.’s basic conclusions are convincing, but the real story may be more complicated than they suggest. First, the definitions of SOEs and non-SOEs are not always white and black. The Chinese government has a recent policy of encouraging the so-called “mixed economy”. What happened was mainly SOE investment in non-SOEs, and consequently, some of the non-SOEs are no longer classified as non-SOEs. This may affect the growth rate of SOE investment as well as non-SOE investment. Liang et al. also mention that large SOEs and local SOEs are quite different in many ways. Large SOEs can borrow nationally and are not constrained by local credit markets, while local SOEs are more dependent on local banks. But it is also true that at the local level, the behavior of SOEs are often quite similar to non-SOEs, because some of these local SOEs are competing with non-SOEs both in domestic and international markets, unlike the national SOEs which are often in monopolistic industries. Second, Liang et al. use Chengtou bonds as a proxy for local government debt. It is true that recently, the market for Chengtou bonds has developed rapidly, but the bulk of local government debts are in fact borrowings from banks. These local government borrowings are difficult to trace, and more prone to corruption and misallocation. The Chinese government has introduced new policies regulating Chengtou bonds, so the correlation of Chengtou bonds with overall local debt may have weakened. Third, we should be very careful in interpreting the policy implications of Liang et al.’s study. The rising SOEs leverage ratio and declining non-SOEs ratio clearly show that SOEs are less efficient, but there are also good reasons to believe that public investment may not necessarily “crowd out” private investment, especially after a financial tsunami. Maybe what matters is the type of public investment, and the way local governments chooses to finance their public investment. Even if local governments had not increased their debt levels, private investment would probably have remained sluggish, because of pessimistic market sentiment. If we agree that the recent decline of private investment is mainly caused by the recession, then policy makers should continue to use proactive fiscal policy, increase public investment, and, at the same time, find other ways to encourage private investment. For example, the government can liberalize some of the heavily regulated and tightly controlled service sectors.

Corruption and State and Local Government Debt Expansion

AbstractTheories describing rent seeking in the public sector posit a number of negative fiscal outcomes that the choices of corrupt officials may generate. The evidence presented in this article shows that states with greater intensities of public corruption have higher aggregate levels of state and local debt. If corruption in the 10 most corrupt states were only at an average level, their public debt would be 9 percent lower, or about $249.35 per capita, all else being equal. Notably, institutional control measures may not have succeeded in restraining the expansion of state and local public debt in the presence of greater levels of corruption. State and local governments would achieve more efficient levels of fiscal discipline by curbing public sector corruption.

CFOs’ views on corporate financing decisions

Purpose The purpose of this paper is to examine the managerial views on the corporate financing practices of firms in the emerging market of Sri Lanka. Design/methodology/approach A survey approach was employed using chief financial officers (CFOs) from the top non-financial firms listed on the Colombo Stock Exchange. Findings CFOs’ views on corporate financing practices are not fully consistent with the theory: financial hierarchy appears to be more important and firms are less leveraged. Most Sri Lankan CFOs perceive some policy factors as important and theoretically support: volatility of earnings and cash flows, tax advantages of interest deductibility, transaction costs, timing of interest rates, low foreign interest rates and debt equity targets. These factors are high priority in emerging markets but either not important at all or less important in developed markets. Matching debt maturity with the life of assets is equally important in both markets. Most CFOs adhere their financing to the local debt market, while a few firms use foreign debt. CFOs are concerned about earnings per share (EPS) dilution, providing a natural hedge in foreign debt issues, credit ratings, under/overvaluation of stocks and corporate control, whereas they are significantly important in developed markets. Age and education mostly explain the differences. Research limitations/implications The study is restricted to large companies in a relatively smaller market. Hence, sample size is relatively small, even though it shows a higher response rate. Practical implications The study offers insights for corporate financing decision-makers that could impact on firm value through a shift in emphasis toward capital structure theories. Originality/value The paper focuses on corporate financing practices in Sri Lanka in search of emerging market features that could mitigate the gap in the emerging market literature through survey evidence.

Developing by borrowing? Inter-jurisdictional competition, land finance and local debt accumulation in China

Although the investment-oriented development model for economic growth adopted by Chinese governments has generated spectacular results, the risks of debt-financed urbanisation and economic development have recently become evident in mounting local debts that are undermining the financial system, triggering concerns with respect to local governments’ indebtedness, financial stability and sovereign risk in China. In this paper, we portray the uneven spatial and temporal dynamics of local government debt in China, and examine the ways in which it is intertwined with institutional, political and economic factors. Our analysis shows that while global and national economic conditions have resulted in a dramatic increase in local government debt, particularly in the late 2000s and the early 2010s, the spatial variation of local debt accumulation in China could be partly explained by two institutional factors: land finance and inter-jurisdictional competition. We argue that the behaviour of local governments may harm the long-term future of Chinese cities.

The effects of the global financial crisis on the Colombian local currency bonds prices

Purpose The purpose of this paper is to perform an event study using high frequency data on peso-denominated Colombian government bonds to measure the effects of news during the global financial crisis (GFC). Design/methodology/approach Using standard event study methodology, the authors want to see if a surprise (originating from macroeconomic news and GFC events) has a significant effect on asset prices measurable as abnormal returns. The authors also assume that the US market acted as a transmission mechanism for the crisis in a standard market model framework and control for confounding effects from events that originated from the crisis by taking into account the effect of global, regional and local macroeconomic surprises in the period before, during and after the GFC. Findings The results show that there was resilience and decoupling of the Colombian local currency bond market from the events of the GFC. Research limitations/implications The results show that there was resilience (in terms of abnormal returns) and decoupling of the Colombian local currency bond market from the events of the GFC. The paper also finds that, on an average, Colombian bonds performed better during the period of the GFC than the period before and after the GFC. Practical implications In the event study using individual bonds the paper finds that, in most cases, negative news had a positive impact in Colombian bond prices during the GFC. Social implications These results have important policy implications in emerging markets economies in terms of the benefits of substituting foreign currency debt with local currency debt. Originality/value This paper provides a date and time-specific timeline (Table III) of the most significant GFC events and news. The paper finds that for all the periods under observation local news related to inflation had the greatest impact in bond prices. In the case of global and regional news, inflation and trade-related surprises had also significant effects on bond prices but to a lesser extent.

Determinants of Debt Concentration at the State Level

We examine the general factors that affect the distribution of debt among state and local governments. We measure the distribution as the percentage of total state and aggregate local debt that is issued or held by the state level of government. Using a fiscal federalism framework, we discuss the fiscal, legal, and political factors that play an important role in determining the level of government that issues debt. Findings suggest that important factors of debt concentration at the state level include state political ideology and economic factors of income per capita and unemployment rates.

Municipality Budget Rules and Debt: Is the Italian Regulation Effective?

This article studies the local fiscal rules in force in Italy—the Domestic Stability Pact and debt constraints—that have been adopted to coordinate levels of government and be compliant with the European Stability and Growth Pact. The aim is to assess the effects of such rules on local borrowing and investments, the latter being crucial for growth. To this end, a dataset of Italian municipality budgets from 1999 to 2009 is exploited. The analysis shows that fiscal rules help to control local debt, but they have also led to a sharp decrease in investments, especially among compliant municipalities

Application of the public–private partnership model to urban sewage treatment

Funding shortages can greatly affect the construction and implementation of urban sewage treatment projects. Applying the public–private partnership model to urban sewage treatment projects will increase the financing capacity and mitigate the risk of local debt. Based on analyses of current urban sewage treatment projects and the relationship between the public–private partnership model and these projects, we demonstrated that the public–private partnership model is applicable to city sewage treatment projects, thereby enhancing social capital, improving the management and operation of the projects, and facilitating various management methods for innovation and optimization. We studied the relationships between responsibility and authority, benefit sharing, and risk sharing using the public–private partnership model as well as the main issues that affect urban sewage treatment, and we then analyzed these issues from the perspectives of government, enterprises, intermediary agencies, and public groups. We conclude that the implementation of public–private partnership models affects urban sewage treatment projects by defining the relationship between the government and market. Based on our comprehensive analysis, we provide policy suggestions regarding the public–private partnership model for urban sewage treatment with respect to government, social capital, and intermediary organizations, thereby providing a guide to the implementation of the public–private partnership model.

Competition Model and the Change of Local Governments’ Behavior—and Governance of China’s Local Government Debt

“Promotion tournament model” is used to explain the Chinese economic miracle. The key of the promotion tournament model is competition for economic growth which brings economic growth together with some societal problems. Competition for economic growth influences local governments’ behavior and is one of the reasons for the rapid rising of local debts. The article proposes a new competition model—competition for inhabitants’ satisfaction. It is a better choice under the system of political centralization with fiscal decentralization in China. It gives inhabitants the right to supervise the government officials while the central government has the power of appointment. Competition for inhabitants’ satisfaction changes the local governments’ investment and finance behaviors, which is meaningful to improve China’s local government debt governance.

Status analysis and control measures of the debt risk in Chinese local government: based on the study of the relationship between “power, responsibility, and interests”

From the view of current conditions and developing trends of the debt scale in Chinese local government, the debt crisis will explode in the near future if it cannot be controlled in an effective way. According to the regional distribution in China, except for Beijing, Shanghai, Tianjin, and Hainan, the debt risk is mainly concentrated in the western region. In a further step, it can be seen that this risk of debt is resulted by the imbalanced relationship between “power, responsibility, and interests” which contains non-accordance of debt power (such as debt-financing power), confusion of debt responsibility (such as debt-management responsibility), and distortion of debt interests (such as private benefit and public interests). For this problem to be corrected, using the local government’s debt for private interests should be prevented, realizing the local debt behavior takes to the faithful service for the public interests. To realize this purpose, it is important to monitor the relationship between “power, responsibility, and interests,” which is the most important factor for setting up the debt risk control system of Chinese local governments. In particular, the control system should include the following aspects. First, it should find the right time to empower local government with debt power. Second, on the basis of both positive and negative sides, it should design a system to restrict the debt responsibility in local government, which is necessary to solve problems such as new debt, invalid debt, and overdue debt expansion. Third, it should propose the guidance mechanism to realize the convergence from the private benefit to the social interests on the local debt.

TOP‐DOWN AND BOTTOM‐UP: INSTITUTIONAL EFFECTS ON DEBT AND GRANTS AT THE ENGLISH AND GERMAN LOCAL LEVEL

This article investigates the impact of institutional factors on the relationship between grant funding and local debt in England and Germany. Using a panel dataset covering the period 2005–12, the research identifies a positive relationship between grants and local debt. The positive relationship between grants and debt is reduced due to the impact of political and administrative variables. The findings demonstrate three shortcomings of the current literature. First, in contrast to the dominant portrayal of German local administration as predominantly legalistic, partisan dynamics affect the allocation of grants to the German local level. Second, institutional variables operate differently depending upon grant type, providing a rationale against the scholarly practice of using aggregate grants. Third, grant mechanisms provide a promising key to unlock institutional dynamics in systems of multilevel governance, but only when scholars integrate institutional differences more explicitly in their research design than hitherto accounted for by political economy.

The Development Tendency of the Real Estate Industry under China’s Economic “New Normal”

Under the economic “new normal”, the real estate industry experiences a transition from seller’s market to buyer’s market; the construction of indemnificatory housing becomes the main approach of macroeconomic control; the source of real estate funds turns from single credit to diverse financing; the mechanism of macro control gradually becomes market-oriented and the development mode gradually turns pluralistic. At the same time, the real estate industry is facing challenges from local debt crisis, tax reformation, online businesses and transformation of production mode. However, this paper proposes that there’s no fundamental alternation in the basic aspects of macroeconomy that supports China’s real estate development, and the “new normal” of China’s real estate market should be led by reformation and innovation.

Reproducing the city of the spectacle: Mega-events, local debts, and infrastructure-led urbanization in China

Existing studies of the growth of Chinese cities and the escalation of local debts have been done in separation. This research examines the growth and transformation of Chinese cities in relation to the practice of hosting mega-events as a means of capital mobilization and the expansion of local debts. An investigation of the case of Guangzhou, the host city of the 2010 Asian Games, has identified an interesting trajectory in which hosting mega-events has been actively pursued as a strategy of capital accumulation to stimulate infrastructure-driven urbanization. The municipal government has managed to mobilize resources from commercial banks to finance infrastructure projects and foster urban spatial restructuring through the establishment of a series of local government financing platforms (LGFPs). Because land was used as the main assets injecting into LGFPs and as collateral to obtain bank loans, the revenue generated from land sales has been of great significance to support LGFPs. However, the uncertainty of the real estate market has made land revenue volatile, resulting in looming local debts. Findings of this research cast doubt over the long-term sustainability of China's event-driven urbanization and further advance theoretical understanding of the diverse trajectories of urbanization in the era of global urbanism.

Sustainability of Local Government Sector Debt. Evidence from Monte-Carlo Simulations

The financial standing of local governments across the European Union was strongly affected by the economic crisis. The local government sector conducted vast investment policies reaching 10.2% of all investments in the EU countries in 2010. However, at the same time its indebtedness expanded significantly. The current low interest rate environment makes the sector vulnerable to future interest rate increases. The presented research analyses the impact of several scenarios of interest rate changes in Poland on the local governments’ ability to service their current debt burdens. Simulations are conducted with the Monte Carlo method. Some scenarios indicate a high vulnerability of local governments to adverse changes in market interest rates, but only if they are combined with a reduction of sector’s operating surplus. Such an economic setup may give rise to systemic problems for the whole public sector.

Twenty‑Six Years of Emerging Country Debt

Emerging debt remains attractively priced, particularly local currency debt at current relative levels. Alpha opportunities, especially those approached from the bottom up, persist despite challenges created by declining liquidity.

U.S. Monetary Expectations and Emerging Market Debt Flows

This paper examines the effects that changes to U.S. monetary expectations have on debt flows to emerging markets since the Global Financial Crisis. First, daily interest rate expectations measured by federal fund futures and a shadow rate model are used to categorize Federal Reserve announcements as easing (unexpected), tightening (unexpected), easing (expected), and tightening (expected). Second, the announcements categorized by the shadow rate model are used for an event study on daily emerging market debt flows by currency (all currencies, hard currency, local currency, mixed currency), investor (all investors, active investors, passive investors), and region (Asia excluding Japan, Europe Middle East and Africa (EMEA), Latin America, and Global Emerging Markets (Global EM)). The results show that tightening (unexpected) announcements cause emerging market debt outflows, hard currency debt flows respond more to announcements than local currency debt flows, and that passive investors respond more than active investors. Debt flows to Latin America respond more to announcements than debt flows to Asia ex-Japan, EMEA, and Global EM.

Local Government Debt in China: Implications for Reform

Since the 1994 fiscal reforms, China's national public finances have been in a strong position, but public finances of local governments (including provincial, city and county governments) have been always under stress. This is because local governments in China are responsible for financing the provision of basic economic and social services, as well as for urban infrastructure, but they have limited access to tax revenues, have no power to introduce new taxes or to increase rates of existing taxes, and are prohibited under the 1994 Budget Law from borrowing. Consequently, local governments are heavily dependent on non-tax revenues and fiscal transfers from the central government. In spite of the prohibition on borrowing, most local governments have been borrowing informally for many years and the central government has ignored this breach of the Budget Law. Now the size of local government borrowing has reached levels that are causing concerns for the sustainability of local public finances and the stability of the Chinese banking system. This situation raises many policy issues, some requiring urgent policy interventions and other requiring medium-term policy responses. Thus, there is a need for broadening provincial powers over taxation, reforming intergovernmental fiscal transfers, and formally recognizing provincial borrowing powers. However, the focus of this paper is on the incidence of local debt on provincial and sub-provincial public finances, an aspect of local debt that has not attracted sufficient attention in the literature. The concentration of local debt and contingent liabilities at sub-provincial levels and the new annual limit imposed by the State Council on local debt in 2015 are discussed. Lessons learned from Australia's experience in relation to the management of subnational borrowing are also discussed, as these appear to be highly relevant to China's current situation.

Financial Innovation in Sovereign Borrowing and Public Provision of Liquidity

This paper studies how financial innovation in sovereign debt markets can increase a country’s level of private investment and welfare. I propose a model where public debt has a liquidity purpose for the domestic private sector and is demanded as a saving vehicle by more patient international investors. The public bond is risky, it has a low (high) return when the government’s fiscal capacity is low (high), but the government cannot strategically default on it. The main result of the paper is that the government can increase private investment by increasing the number of assets supplied, tranching its fiscal capacity, and issuing a safe and a risky bond. The risky bond is held only by international investors and the domestic private sector demands the safe bonds. Safe bonds lower the cost of liquidity hoarding for the private sector which enables it to increase investment. I test the predictions of the model using a dataset on public debt and local currency sovereign debt ownership for a group of emerging economies. I find that domestic collateral constraints are key determinants of the shares held abroad of total public debt and especially of relatively riskier debt instruments (local currency debt).

Community investment in wind farms: funding structure effects in wind energy infrastructure development.

Wind energy development is an increasingly popular form of renewable energy infrastructure in rural areas. Communities generally perceive socioeconomic benefits accrue and that community funding structures are preferable to corporate structures, yet lack supporting quantitative data to inform energy policy. This study uses the Everpower wind development, to be located in Midwestern Ohio, as a hypothetical modeling environment to identify and examine socioeconomic impact trends arising from corporate, community and diversified funding structures. Analysis of five National Renewable Energy Laboratory Jobs and Economic Development Impact models incorporating local economic data and review of relevant literature were conducted. The findings suggest that community and diversified funding structures exhibit 40-100% higher socioeconomic impact levels than corporate structures. Prioritization of funding sources and retention of federal tax incentives were identified as key elements. The incorporation of local shares was found to mitigate the negative effects of foreign private equity, local debt financing increased economic output and opportunities for private equity investment were identified. The results provide the groundwork for energy policies focused to maximize socioeconomic impacts while creating opportunities for inclusive economic participation and improved social acceptance levels fundamental to the deployment of renewable energy technology.

Бюджетна політика у сфері місцевих позик та місцевого боргу

У статті досліджено сутність, проблеми та організаційно-правове забезпечення проведення бюджетної політики у сфері місцевих позик і місцевого боргу. Доведено, що основними недоліками організації випуску місцевих позик є їх низька інвестиційна привабливість, нестабільність соціально-економічної та політичної ситуації, нерозвиненість регіональних фондових ринків та відсутність гарантій органів місцевого самоврядування щодопогашення місцевого боргу. Визначено, що оптимальний напрям використання залучених коштів – їх інвестування в інфраструктуру, яка працюватиме на збільшення надходжень до місцевого бюджету.