NEW PAPER "The Political Economy of Sovereign Borrowing"
ABSTRACT: "Political economy theory expects politicians to use budget deÖcits to engineer an electiontimed boom, known as the political business cycle. We challenge and contextualize this view by incorporating the Önancial constraints faced by governments into an electoral framework. Employing a formal model, we show theoretically that the extent of ownership dispersion among creditors has important e§ects for governmentsí policy autonomy. Based on our theoretical results, we argue when highly-indebted governments become more reliant on international bond markets ñ as opposed to traditional bank lending ñ politicians alter the way they respond to domestic constituents. In an econometric test of 16 Latin American countries from 1961 to 2011, we show that Önancial decentralization breeds austerity. More speciÖcally, we Önd that politicians exhibit more Öscal discipline when they fund a greater share of their spending through decentralized bond markets. Furthermore, we Önd this disciplining e§ect to be particularly strong during election periods."