The Political Economy of Financial Innovation: Evidence from Local Governments
Review of Financial Studies, Forthcoming
61 Pages Posted: 30 Jul 2011 Last revised: 15 Aug 2017
Date Written: Septembre 9, 2016
We investigate the development of an innovative and high-risk type of borrowing for local governments, known as structured loans. Using transaction data for more than 2,700 local governments in France, we show that the adoption of these instruments is more frequent for politicians from highly indebted local governments, from politically contested areas, and during political campaigns. Taking on structured loans helps incumbents get re-elected, and initially allows them to maintain lower taxes. Our findings illustrate how financial innovation can amplify principal-agent problems within the political system.
Keywords: Financial innovation, Political cycle, Herding, Structured debt
JEL Classification: H74, G11, G32
Suggested Citation: Suggested Citation