Fiscal Decentralization and Soft Budget Constraints

Liberalization policies of transition have led to the mass reduction of enterprise subsidization which prevailed in socialist economies. However, in some sectors of the economy, subsidies associated with price controls remain due to social and political factors. Moreover in multi-tier governments, subnational levels seem to be more sensitive to these factors because of their proximity to the constituency. Thus decentralization of fiscal resources might interfere with the elimination of re-sidual subsidies. This research establishes a link between fiscal decentralization and the propensity of local governments to subsidize enterprises. The link is tested empirically on a panel of 72 Russian regions over the period 1995 – 1997.