International Tax and Public Finance

, Volume 20, Issue 2, pp 338-356

First online:

Size, spillovers and soft budget constraints

  • Ernesto CrivelliAffiliated withInternational Monetary Fund
  • , Klaas StaalAffiliated withIAAK, University of Bonn Email author 

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There is much evidence against the so-called “too big to fail” hypothesis in the case of bailouts to subnational governments. We look at a model where districts of different size provide local public goods with positive spillovers. Matching grants of a central government can induce socially-efficient provision, but districts can still exploit the intervening central government by inducing direct financing. We show that the ability and willingness of a district to induce a bailout and district size are negatively correlated. Furthermore, we argue that these policies can be equilibrium strategies.


Bailouts Soft budget constraints District size Spillovers

JEL Classification

H4 H7 R1