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  • 2021
  • Working Paper

The Effects of Local Government Financial Distress: Evidence from Toxic Loans

By: Boris Vallée and Julien Sauvagnat
  • Format:Print
  • | Language:English
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Abstract

We examine the response from both local governments and their voters to a sudden increase in public debt burden. We exploit plausibly exogenous variation in the ex post cost of toxic loans, a notorious financial innovation adopted by a large number of local governments. A large increase in the debt burden of a local government results in a significant reduction in its investments, but leaves expenses and taxes mostly unchanged. This effect is dampened for local governments that are more politically contested. An increase in public debt reduces the likelihood of re-election for incumbent mayor and its political party. Overall, these findings support the existence of a public debt overhang effect, which binds differently depending on the political context as contested mayors strive to maintain investments.

Keywords

Public Debt; Public Investments; Political Contestation; Toxic Loans; Borrowing and Debt; Investment; Public Sector; Government and Politics; Local Range; Financing and Loans

Citation

Vallée, Boris, and Julien Sauvagnat. "The Effects of Local Government Financial Distress: Evidence from Toxic Loans." Working Paper, February 2021.
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About The Author

Boris Vallee

Finance
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  • Big Blue: Starting a Real Estate Firm By: Boris Vallée and Sean Bracken
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  • The Big Blue: Starting a Real Estate Firm By: Boris Vallee and Nikodem Szumilo
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