Working Paper: NBER ID: w12133
Authors: James A. Robinson; Ragnar Torvik
Abstract: Why do soft budget constraints exist and persist? In this paper we argue that the prevalence of soft budget constraints can be best explained by the political desirability of softness. We develop a political economy model where politicians cannot commit to policies that are not ex post optimal. We show that because of the dynamic commitment problem inherent in the soft budget constraint, politicians can in essence commit to make transfers to entrepreneurs which otherwise they would not be able to do. This encourages such entrepreneurs to vote for them. Though the soft budget constraint may induce economic inefficiency, it may be politically rational because it influences the outcomes of elections. In consequence, even when information is complete, politicians may fund bad projects which they anticipate they will have to bail out in the future.
Keywords: No keywords provided
JEL Codes: H20; H50; O20
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Politicians' inability to commit to hard budget constraints (H60) | Financing of bad projects (G32) |
| Financing of bad projects (G32) | Electoral outcomes (K16) |
| Anticipation of future bailouts (H81) | Entrepreneur behavior (L26) |
| Entrepreneur behavior (L26) | Voter support (K16) |
| Reliance on financing bad projects (G32) | Entrenchment of soft budget constraint (H61) |