Takero Doi, Ph.D., Faculty of Economics, Keio University, 2-15-45 Mita, Minato-Ku Tokyo, 108-8345, Japan and Toshihiro Ihori, PhD, Economics, University of Tokyo, Hongo, Tokyo 113-0033, Tokyo, 113-0033, Japan.
This paper investigates how government debt is allocated between the central government and local governments among countries with various type of decentralization. For example, in Euro area, the Stability and Growth Pact provides convergence criteria on gross government debt (lower than 60% of GDP or approaching that value). Member countries decide allocation of the gross government debt between the central (federal) government and local (state) governments to achieve the criteria. On the other hand, local (state) governments do not directly accept responsibility to attain the criteria of government debt. Depending on fiscal decentralization, the central and local governments cannot cooperate to restrain government debt, because they pursue their ends independently.
We analyze normatively and positively intergovernmental structure and debt management of the central and local governments. We develop a theoretical model of intergovernmental financing with government debt, public investment, and local governments’ rent-seeking activities, and explain allocation of government debt between the central and local governments in a multi-government setting. Also we investigate relationship between fiscal decentralization and intergovernmental debt management in G7 countries using econometric analysis. G7 countries have deferent degree of decentralization; federal states like the US, Canada, and Germany, and unitary states like the UK, France, Italy, and Japan.
According to our analysis, the level of debt (to GDP) of the central and local governments strongly depends on intergovernmental structure (fiscal decentralization) as well as preference of household for public goods, public investment, and rent-seeking.