Sub-national public debt in Spain political economy issues and the role of fiscal rules and decentralization

Abstract

Sub-sovereign public debt in Spain more than doubled over the period 2007-2011 leading to growing concerns on its sustainability and the potential negative spillovers for general government public finance consolidation targets, in particular by rating agencies and international organizations, in the context of the more general public debt crisis suffered by the euro area. Spain offers an interesting case study to understand the fundamental determinants of sub-sovereign debt for a number of reasons. Firstly, the country has witnessed successive waves of fiscal decentralization that have increased the amount of public services provided directly by sub-national governments in a framework of increased fiscal co-responsibility (fiscal autonomy). Secondly, this decentralization process took place in a period in which a number of supra-national and national fiscal rules were put in place in the country. Thirdly, while fiscal rules provide some explicit coordination among the different levels of government, there is also a high degree of market-imposed discipline, as most regional government’s debt is regularly scrutinized by rating agencies. Within this framework, we analyze the evolution and the determinants of sub-sovereign public debt, focusing on regional government debt determinants, including of liabilities accounted for outside the extant definition of EDP public debt. Among the set of determinants we pay special attention to institutional factors (fiscal decentralization, fiscal autonomy, fiscal rules) and market discipline. We do so by estimating empirical models in which we exploit the pool structure of our data (17 regions, over the period 1995-2010) within a GMM econometric approach