Endowments, Fiscal Federalism, and the Cost of Capital for States: Evidence from Brazil, 1891-1930

45 Pages Posted: 23 Dec 2009 Last revised: 24 Dec 2009

See all articles by Andre Martinez

Andre Martinez

Banco de México

Aldo Musacchio

Brandeis University- International Business School; National Bureau of Economic Research

Multiple version iconThere are 2 versions of this paper

Date Written: December 23, 2009


There is a large literature that aims to explain what determines country risk (defined as the difference between the yield of a sovereign’s bonds and the risk free rate). In this paper, we contribute to the discussion by arguing that an important explanatory factor is the impact that commodities have on the capacity to pay. We use a newly created data base with state-level fiscal and risk premium data for Brazil states between 1891 and 1930 to show that Brazilian states with natural endowments that allowed them to export commodities that were in high demand (e.g., rubber and coffee) ended up having higher revenues per capita and, thus, lower cost of capital. We also explain that the variation in revenues per capita was both a product of the variation in natural endowments (i.e., the fact that states cannot produce any commodity they want) and a commodity boom that had asymmetric effects among states. These two effects generated variation in revenues per capita at the state level thanks to the extreme form of fiscal decentralization that the Brazilian government adopted in the Constitution of 1891, which gave states the sole right to tax exports. We end by running instrumental variable estimates using indices of export prices for each state to instrument for revenues per capita. Our IV estimates confirm our results that states with commodities that had higher price increases had lower risk premia.

Suggested Citation

Martinez Fritscher, Andre C. and Musacchio, Aldo, Endowments, Fiscal Federalism, and the Cost of Capital for States: Evidence from Brazil, 1891-1930 (December 23, 2009). Harvard Business School BGIE Unit Working Paper No. 10-027. Available at SSRN: https://ssrn.com/abstract=1482725 or http://dx.doi.org/10.2139/ssrn.1482725

Andre C. Martinez Fritscher

Banco de México ( email )

Av. 5 de Mayo 18
Piso 4
Mexico City, 06059

Aldo Musacchio (Contact Author)

Brandeis University- International Business School ( email )

415 South Street MC 32
Waltham, MA 02454-9110
United States

National Bureau of Economic Research ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

HOME PAGE: http://www.nber.org/people/aldo_musacchio

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