Subnational Debt of China: The Politics-Finance Nexus
81 Pages Posted: 1 Jul 2016 Last revised: 22 May 2018
Date Written: May 16, 2018
Using comprehensive proprietary loan-level data, we analyze debt default of local governments in China. We document that, unbeknownst to the public, many local governments in China default on their bank loans. Their default decisions are often strategic: for the same loan facilities, distressed local government borrowers choose to default on commercial banks rather than a powerful development bank. Moreover, this selective default is more pronounced for local governments with less powerful politicians. Two policy changes allow us to identify the causal effect of political power on default decisions. Increases in political power of borrowers or decreases in political power of lenders lower lenders’ priority to receive debt payments. Our findings shed light on the soft budget constraint problem for government debt.
Keywords: Local Government Debt, China, China Development Bank, Political Power
JEL Classification: G21, G32, H74
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