Soft Budget Constraints Research Articles

Hardening the budget constraint: Institutional reform in the financial management of Hungarian local governments

AbstractKornai (2014) described the problems of municipal indebtedness in Hungary and analysed the process of bailout carried out between 2011 and 2014. In the same period, the central government also reformed the local government system, which included serious limitations of their financial independence. This study re-examines the state of the soft budget constraint (SBC) of Hungarian local governments. To start, the general theoretical framework of SBC is introduced. Then, the budget constraint on the Hungarian local governments before the bailout is described briefly, followed by an assessment of the corresponding measures which were expected to offset the negative messages of the completed bailout and to harden the budget constraint. The study concludes that the central government decided to harden the budget constraint through the introduction of new hierarchical mechanisms, while the development of fiscal discipline stopped. On the one hand, this resulted in the consolidation of municipal budgets, but on the other, it was accompanied by a serious limitation of local autonomy, projects and borrowing in general, while the central government employs specific administrative tools to show favour to some settlements according to its (political) interests.

Fiscal Competition，Soft Budget Constraints and Local Fiscal Sustainability

Given the complex and severe external economic environment and the increasing downward pressure on the domestic economy, fiscal policy, as a structural policy, is expected to stabilize growth. However, affected by the implementation of tax and fee reduction policies, the cooling of land finance and the strict control of hidden debts, the pressure on local public finances has become increasingly prominent, and the space for proactive fiscal policies is limited. In order to make subsequent policies more steadily advancing in response to the downward pressure on the economy, on the one hand, we must ensure fiscal sustainability to provide guarantees for the stability and sustainability of economic operation; on the other hand, we must avoid preventing and controlling risks in a “one-size-fits-all” way to leave a cushion for expansionary policies. Therefore, under the current economic and fiscal situation, it is of great practical significance to scientifically understand local fiscal situation and examine the impact of key institutional factors on local fiscal sustainability based on the Chinese-style fiscal and political systems.Fiscal competition and soft budget constraints are the two core issues contained in the Chinese-style decentralization system, which have a profound impact on the fiscal behaviors of local governments. This paper integrates the two into a unified analytical framework, analyzes their impacts on local fiscal sustainability by distinguishing the modes of fiscal competition and the forms of soft budget constraints, and investigates the interaction effects between them. The results show that both tax competition and expenditure competition have a significant negative impact on fiscal sustainability. For different forms of soft budget constraints, the effect of transfer payments on local fiscal sustainability is uncertain, while land revenues and municipal investment bonds have a significant negative effect. Research on interaction effects shows that the interaction between transfer payments and fiscal competition is conducive to fiscal sustainability, but the interactions between land finance, municipal investment bonds and fiscal competition are not conducive to fiscal sustainability. Further research indicates that there is regional heterogeneity in the above effects.This paper proposes the following policy recommendations: Firstly, it is very necessary to establish a fiscal system that the revenue resources and expenditure responsibilities commensurate, reform the political promotion mechanism and establish a diversified performance evaluation system. Secondly, in the governance of excessive fiscal competition and soft budget constraints, the interaction between them should be considered. More specifically, central government may encourage standardized and orderly fiscal competition to reduce local government's reliance on off-budget revenue, and increase transfer payments to ease excessive fiscal competition. Thirdly, to ensure sufficient fiscal space and sustainable fiscal policies, differentiated designs should be made according to the economic development level and fiscal status of different regions, as well as the interactive mechanism between the modes of fiscal competition and the forms of soft budget constraints.

János Kornai, the Austrians, and the political and economic analysis of socialism

What is the relationship between central planning, pervasive shortages, and soft budget constraints under socialism? In this paper, we address this question by exploring the evolution of Janos Kornai’s work on the operation of real-world socialism. In doing so, our goal is to reframe Kornai’s contributions to the political economy of socialism by focusing on the epistemic conditions under non-market decision making. From this perspective, we argue that the dysfunction facing socialist economies is not one based fundamentally on a misalignment of incentives in enforcing hard budget constraints and eliminating shortages. Rather, soft budget constraints are a consequence of competition between firms in a non-profit setting, utilized as a means to monetize the control over state-owned resources through the creation of pervasive shortages.

Has Financial Marketization Promoted Structural Deleveraging in the Corporate Sector? Evidence from Chinese Manufacturing Companies

Since the outbreak of the financial crisis in 2008, China’s leverage ratio has surged, especially in the corporate sector, which has created great hidden dangers for the economic development of our country. Deleveraging is an important measure to prevent and resolve systemic financial risks. Particularly, although the economy of our country is currently operating smoothly, it is also facing downward economic pressure due to some domestic and foreign factors. To properly handle the relationship between “deleveraging” and “stable growth”, it is necessary to not only continue deleveraging so as to prevent accumulative risks, but also prevent the intensive risk outbreak of high-indebted companies, and avoid the need for reasonable investment and financing of low-indebted companies being not satisfied. For this reason, the central government proposed “structural” deleveraging. How to accomplish the goal of structural deleveraging has become the focus of the government and academic circles. This paper demonstrates how financial marketization promotes structural deleveraging in the corporate sector from a theoretical and empirical perspective. Theoretical analysis shows that financial marketization improves the efficiency of cross-enterprise resource allocation so that more resources flow to profitable companies, which promotes the structural deleveraging of the corporate sector in the process of resource mobility between strong and weak companies. In order to verify the hypothesis proposed in the theoretical part, this paper uses the data from the industrial enterprise database from 2008 to 2013 to empirically examine the impact of financial marketization on corporate leverage. By using the panel threshold regression, we analyze the impact of financial marketization on the structural deleveraging of corporate sector. Taking the profitability of enterprises as the threshold, the empirical results show that:（1）Financial marketization has a non-linear impact on corporate leverage by adjusting the allocation of credit resources: On the one hand, financial marketization will reduce the leverage of companies with weak profitability, which will increase the leverage ratio of companies with strong profitability, and achieve the goal of structural deleveraging in the corporate sector in the process of one reduction and one increase. However, this process will be affected by “non-marketization” factors such as soft budget constraints.（2）Financial marketization has little effect on the structural deleveraging of state-owned enterprises, and has a significant impact on non-state-owned enterprises.（3）Financial marketization can obviously promote the structural deleveraging of corporate sector in the eastern region, and the impact on the central and western regions is limited. Therefore, in the “deleveraging” process of supply-side reforms, special attention should be paid to the structural nature of leverage within the corporate sector, to reduce cross-enterprise resource misallocation caused by non-marketization factors, and to accelerate the process of financial marketization in the central and western regions.

The issue of sustainability in a highly centrally regulated fiscal model of local governments: an empirical study

Purpose This study aims to assess the sustainability of local governments in a highly centrally regulated fiscal model. Design/methodology/approach This paper uses a novel approach, a broad data set of almost 3,200 local governments and network methods. This paper analyses financial data from annual reports and other socio-economic sources using cluster analysis. Findings Even in this model, local governments show significant differences in terms of long-term sustainability. Investments do not compensate for the depreciation of tangible assets at a significant part of local governments. A specific type of soft budget constraint can be noticed. Heads of local governments do not “play” for subsequent ad hoc bailouts by the central government, but rather engage themselves in political competition for development subsidies. A further finding of this study is that shrinking populations itself does not explain the differences in local governments’ financial management. Research limitations/implications Further directions of research include the application of an extended approach to sustainability that gives an account of the availability and quality of local services, as well as aims to identify the qualitative social characteristics (success criteria) of the local government financial management. Practical implications The findings can be useful for policymakers, state audit offices, auditors, voters, users of public services and other stakeholders. Social implications The paper argues in favour of moving away from the financial balance in its narrow sense to a long-term and broader term of financial sustainability. Originality/value The findings provide new empirical evidence about the accounting-based measurement of financial sustainability in local governments.

János Kornai, the Austrians, and the Political and Economic Analysis of Socialism

What is the relationship between central planning, pervasive shortages, and soft budget constraints under socialism? In this paper, we address this question by exploring the evolution of Janos Kornai’s work on the operation of real-world socialism. In doing so, our goal is to reframe Kornai’s contributions to the political economy of socialism by focusing on the epistemic conditions under non-market decision making. From this perspective, we argue that the dysfunction facing socialist economies is not one of based fundamentally on a misalignment of incentives in enforcing hard budget constraints and eliminating shortages. Rather, soft budget constraints are a consequence of competition between firms in a non-profit setting, utilized as a means to monetize the control over state-owned resources through the creation of pervasive shortages.

Factors influencing the use of video interpretation compared to in-person interpretation in hospitals: a qualitative study

BackgroundFacilitating access to professional interpretation services is key to equitable hospital care for migrants with limited language proficiency; however, interpreter underuse has been documented. The factors that potentially enable or hinder professional interpreter use are not well understood. We aimed to compare perceptions held by hospital managers and healthcare practitioners of the factors influencing the use of remote video interpretation and in-person interpretation.MethodsThis study employed a retrospective qualitative design. Two hospitals, located in Austria and Norway, with adequately similar baseline characteristics were purposively selected. Both hospitals used in-person interpreters, and the Austrian hospital had recently introduced remote video interpretation as an alternative and supplement. Fifteen managers and healthcare practitioners participated in focus groups and individual interviews. Data were thematically analysed with the aid of behavioural system theory.ResultsAcross sites, the facilitators of interpreter use included individual factors (knowledge about interpreter services, skills to assess when/how to use an interpreter, beliefs about favourable consequences), as well as organisational factors (soft budget constraints). Barriers were identified at the individual level (lack of interpersonal skills to handle difficult provider-interpreter situations, lack of skills to persuade patients to accept interpreter use, lack of trust in service professionalism), and at the organisational level (limited interpreter availability, time constraints). The introduction of remote video interpretation services seemed to counteract the organisational barriers. Video interpretation was further perceived to enable patient confidentiality, which was regarded as a facilitator. However, video interpretation introduced specific barriers, including perceived communication deficiencies.ConclusionThis study has identified a range of factors that are perceived to influence the use of interpreters in hospitals. The research suggests that-implementing remote video interpretation services lessens the barriers to use and that such services should be introduced in hospital settings as an alternative or supplement to in-person interpreters. Further intervention functions should be considered to bring about change in the use of interpretation services, including developing guidelines for interpreter use, educating staff in the appropriate use of video technology, and training staff in communicating with interpreter and patients with limited language proficiency.

Origins of regional divergence: economic growth in socialist Yugoslavia†

AbstractRelative to western Europe, we know very little about the determinants of economic growth at the regional level within socialist Europe. This is somewhat unusual, given that socialist policy‐makers have put great emphasis on equitable regional development. This article analyses the regional patterns of growth and divergence in socialist Yugoslavia. New estimates of output and inputs are constructed, and an analysis of output growth, factor accumulation, structural modernization, and productivity is provided. Two novel empirical findings are uncovered. The first is that the sources of growth across the regions were fundamentally different. Total factor productivity was a much more important source of growth in the richer regions than it was in the poorer ones. The second finding is that the source of the regional income divergence lies in the failure of the less developed regions to converge towards the employment rates and total factor productivities of the more developed regions. These failures are interpreted, at least partially, as symptoms of the governing objective and the soft budget constraint of the labour‐managed firms that operated in Yugoslavia. It is argued that Yugoslavia's development model was less suited to the pre‐conditions that prevailed in the less developed parts of the country.

The Soft Budget Constraint at 40: Alternative Perspectives on Its Origins

The soft budget constraint (SBC) is over 40 years old and may seem too well known by now to need elucidation. In this paper, I discuss its origin and its causes. The concept of the soft budget constraint was coined by Janos Kornai, but the origin of the phenomenon that the term captures deserves discussion. Here, I ask why the SBC phenomenon came into being. Kornai considers it a manifestation of paternalism toward SOEs by superior bodies that refuse to let them go under due to symbiotic solidarity with their subordinates. I contend that there are stronger reasons, reasons that inhere in the very core of the bureaucratic allocation system—the method of material balances—that cannot allow enterprises to die just because they generate losses.

New evidence on the soft budget constraint: Chinese environmental policy effectiveness in SOE-dominated cities

This paper analyzes the efficiency of a set of environmental measures introduced by China’s 11th Five-Year Plan in 2006, using a rich and unique data set assembled from the Ministry of Environmental Protection and the State Environmental Protection Agency. By exploiting plausibly exogenous variation in regulatory stringency generated by the regulatory system across China’s provinces, we find evidence that pollution-intensive cities reduced their SO2 emissions substantially, whereas cities with a strong state-owned enterprise (SOE) presence did not. We interpret the results as pointing to evidence of Chinese SOEs’ ongoing soft budget constraints. The findings are robust to the inclusion of different fixed effects and other key determinants of pollution. Moreover, we investigate the main factors underlying regulatory non-compliance: the overlapping (or not) of “Two Control Zone” (Special Policy Zone, Coastal) cities wherein environmental (growth) policies are prioritized; the existence of turning points below (above) which growth and reductions in pollution substitute for (complement) each other; the size and extent of industrial concentration, which determines the possibilities of firms negotiating with the local authorities; and finally, the regulation-induced adoption of cleaner technologies by polluting firms, which enhance productivity and lower SO2 emissions.

When soft budget constraints promote innovation: Kornai meets Schumpeter in Japan

AbstractThe article examines János Kornai’s influential argument that “soft budget constraints” impede innovation, and finds that under certain conditions, they may promote it instead. Kornai’s concept is derived from his analysis of socialism. In capitalism, soft budget constraints can promote innovation if competition is enforced and finance is well regulated. This argument is developed using the same Schumpeterian foundation as Kornai, illustrated empirically with the case of innovation in post-war Japan. Implications are relevant for innovation and industrial policy in general.

State Capacity and the Soft Budget Constraint: Fiscal Federalism, Indian Style

In this paper, we explore the effects of India’s federal structure on state-level fiscal responsibility. Drawing from a dataset that covers the period from 1991 to 2019, we argue that a low marginal retention rate, a high level of transfer dependence and a high level of borrowing dependence (soft budget constraints) from the central government facilitates lower levels of fiscal responsibility in intergovernmental relations. Our hypothesis is tested using random effects, and fixed effects panel estimations of regressions on fiscal responsibility outcomes across Indian states. We also account for the effects of the world’s largest employment program, the Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA), on subnational fiscal responsibility. We find that the fulfillment of rural public employment measures is conducive to lower levels of fiscal responsibility. Moreover, we argue for the persistence of soft budget constraints as a key structural feature of Indian federalism.

Post-privatization state ownership and bank risk-taking: Cross-country evidence

We examine the relation between state residual ownership and bank risk-taking for privatized banks from 45 countries. Applying propensity score matching, we find that privatized banks tend to exhibit higher levels of risk-taking post-privatization than their publicly listed non-privatized counterparts. Moreover, partially privatized banks exhibit higher levels of risk-taking than fully privatized banks. We also observe a positive and significant relation between the level of residual state ownership and risk-taking. These findings are consistent with the distorted objectives associated with government control, as suggested by the political benefits of control, and with the soft budget constraint views of state ownership. The distortion can be mitigated by the quality of a country's institutional and regulatory environments. Finally, our results show that the effect of state ownership on risk-taking is more pronounced in countries with a higher dominance of state-owned enterprises, and it was more prevalent during the global financial crisis.

Zombie Firms and Soft Budget Constraints in the Chinese Stock Market*

The growth of zombie firms has caused increasing concern. The present study seeks to understand why zombie firms have been emerging in recent 10 years and to further explore the mechanisms of their formation. Based on a dataset of Chinese listed companies from 2012 to 2016 and empirical analysis, the present study ascribes the prevalence of zombie firms to soft budget constraints. After using a modified identification model in the Chinese context, we concluded that zombie firms have access to some external resources such as credit support from banks and governmental subsidies, substantiating soft budget constraints among zombie firms. To explain this phenomenon, further analysis reveals that zombie firms bear a heavier policy burden by hiring excess employees, which will bring them more subsidies and a stronger relationship with government in return. This result indicates that policy burden is the reason for soft budget constraints, which exacerbates the zombie firm problems in China.

Board independence and Chinese banking efficiency: a moderating role of ownership restructuring

This study investigates how Chinese banking sector reforms have affected the relationship between banking performance and bank board structure. The study analyzes data from listed commercial Chinese banks between 2000 and 2013, and banking efficiency scores are estimated using the stochastic frontier approach (SFA) and data envelopment analysis (DEA). The impact of board structure and structural reforms on banking efficiency is further analyzed using panel data regression. We find that board independence has a negative influence on banking efficiency, but it becomes positive when the banks are listed on the stock market. This finding confirms the soft-budget constraint theory, which holds that large banks are less efficient than smaller ones as the former can more easily obtain financial support during times of distress. Further, the listing of state-owned banks positively moderates the relationship between board independence and banking efficiency. The study contributes to the literature on banking reforms, board structure, and banking efficiency. It confirms the theoretical basis for Chinese banking reforms and that banking efficiency has improved since the ownership restructuring.

Investments of Czech farms located in less favoured areas after EU accession

This paper investigates the development and structure of the fixed assets of Czech farms and their investment behaviour. We use data from a long-term (2003–2016) survey of farms and categorise farms into three groups according to their share of agricultural land in less favoured areas. The development of tangible fixed assets and their structural development points to the importance of investments to agricultural holdings. Above all, there is an extensive trend of investing in the land, but purchases of land are likely to affect the growth of the relative age of tangible fixed assets, especially the obsolescence of buildings that are not sufficiently modernised by farms. Results of the accelerated model indicate that there is an absence of soft budget constraints but a presence of capital imperfections and high importance of both operating and investment subsidies when deciding on investments in fixed assets.

Determinants of soft budget constraints: How public debt affects hospital performance in Austria.

Soft budget constraints (SBCs) undermine reforms to increase hospital service efficiency when hospital management can count on being bailed out by (subnational) governments in case of deficits. Using cost accounting data on publicly financed, non-profit hospitals in Austria from 2002 to 2015, we analyse the association between SBCs and hospital efficiency change in a setting with negligible risk of hospital closure in a two-stage study design based on bias-corrected non-radial input-oriented data envelopment analysis and ordinary least squares regression. We find that the European debt crisis altered the pattern of hospital efficiency development: after the economic crisis, hospitals in low-debt states had a 1.1 percentage point lower annual efficiency change compared to hospitals in high-debt states. No such systematic difference is found before the economic crisis. The results suggest that sudden exogenous shocks to public finances can increase the budgetary pressure on publicly financed institutions, thereby counteracting a pre-existing SBC.

Kornai goes to Kenya

Janos Kornai developed soft budget constraint logic to explain the socialist world’s dysfunctional economies. We extend his logic to explain dysfunctional land reform in the developing world. International development organizations such as the World Bank provide support for land privatization to developing-country governments, softening their budget constraints. Softer budget constraints encourage developing-country governments to pursue land privatization even when its social value is negative. Kenya’s land reform program illustrates the soft budget constraint syndrome.

Do government subsidies stimulate firms’ R&D efforts? Empirical evidence from China

ABSTRACT Government subsidies have been one of the popular policy instruments to stimulate firms’ R&D activities. We empirically investigate the impact of government subsidies on firms’ R&D decisions of listed manufacturing firms in China. In contrast to prior studies, we split firms’ R&D decision into two elements of ‘whether to invest decision’ and ‘how much to invest decision’. The influences and mechanism of government subsidies on R&D decision are theoretically analysed to develop hypotheses tested in this study. We find that government subsidies have a promotion effect on both elements of the firms’ R&D decision. Moreover, we also demonstrate the heterogeneous effects of government subsidies between state-owned and non-state firms. Due to the inherent principal-agent problem of state-owned firms and soft budget constraint, subsidies can only increase the probability to undertake R&D activities but cannot stimulate further investment in R&D efforts. However, our results indicate that government subsidies take effects in both elements of R&D decision for non-state firms.

A Myth of Soft Budget Constraints in Socialist Economies

Most of the time the budget constraints in the socialist economies were harder than in developing countries and no less hard than in developed countries. The soft budget constraints (SBC) in socialist economies were not pervasive, as most authors believe, but selective, i.e. involved subsidization of some enterprises/industries at the expense of the other. This type of selective subsidization is a classic case of industrial policy: it may be good or bad, leading to success (China, Vietnam) or failure (USSR, Eastern Europe), but cannot be regarded as an intrinsic feature of the socialist centrally planned economy and an example of pervasive SBC. Pervasive SBC should be associated with permanent government budget deficit, debt accumulation, high inflation and other forms of macroeconomic populism. In the Soviet Union in the post-war period (after the monetary reform of 1947 and until the Gorbachev financial and monetary expansion that started in 1987) budget deficit and debt were very low, open and hidden inflation was less than several percent a year – a better record than in most Western countries. But in the 1990s in Russia, other former Soviet republics and most East European countries budget constraints were weakened dramatically and inflation increased to hundreds and thousands percent a year. SBC is just one type of this populist macroeconomic policy that was rare in socialist countries, but is found in abundance in many developing countries (especially Latin America and Sub-Sahara Africa) and transition economies (especially FSU states).