The impact of population size on the risk of local government default

Abstract

Since the outbreak of the international economic crisis in 2008, governments’ fiscal policies have been strongly influenced by high levels of public debt and default. Studies of the causes of debt problems for large local governments have emphasised the interest and timeliness of identifying factors that may influence the probability of municipal default, and have concluded that fiscal policies should be defined according to population size. The present empirical study was conducted on a sample of 1,476 local governments, with data for the period 2009-2014, to determine the influence of financial, socioeconomic and population factors on default risk in three types of municipality (small, medium-sized and large). The variables analysed were those considered relevant to the design of fiscal policies for these local governments. The results obtained show that the factors that influence the risk of default vary according to the size of the municipality, although some are common to all or most cases, such as real estate taxes, vehicle taxes, financial autonomy and per capita income. The main elements found to vary according to municipal size are overall immigration, female immigration, female unemployment and proximity to the next elections. Our findings show that the financial risk of local governments is affected not only by population size but also by financial and socioeconomic variables. These results can help policy-makers to design fiscal policies appropriate for the size of each municipality, thus contributing to avoiding bankruptcy, cuts in public spending and tax increases. Our study findings may be of interest to politicians, managers, fiscal authorities, central governments, supervisory bodies, financial institutions, banks, voters, taxpayers and users of public services.