Assist or desist? Conditional bailouts and fiscal discipline in local governments

Article history: Received 7 July 2014 Received in revised form 12 February 2015 Accepted 13 February 2015 Available online 24 February 2015 Central government bailouts of local governments are commonly viewed as a recipe for localfiscal indiscipline, as local governments learn that the center will come to the rescue in times of trouble. However, little is known about the consequences of bailouts granted conditional on local governments firstmaking efforts to improve the situation.We examine a case inwhich the Swedish central government provided conditional grants to 36 financially troubledmunicipalities. We use the synthetic control method to identify suitable comparison units for each of the 36 municipalities. To compare the development of costs and the fiscal surplus of admitted municipalities to that of their most similar counterparts during the decade after the program, we then estimate fixed effects regressions on the resulting sample. The analysis suggests that conditional bailouts did not erode, and may even have improved, fiscal discipline. © 2015 Elsevier B.V. All rights reserved. JEL classification: D230 H72 H77