The Effects of Political and Fiscal Incentives on Local Government Behavior – An Analysis of Fiscal Slack in China

Abstract

This study examines the determinants of fiscal slack from the perspective of Chinese local government officials. Given China's rapid economic growth over the past 30-plus years, Chinese local governments reportedly hold huge slack resources that attract public scrutiny. In an effort to improve their fiscal performance, some localities recently established budget stabilization funds, following a top-down initiative. However, it remains unclear to what extent fiscal slack has accumulated and which factors affect slack resource levels of Chinese local governments. By employing a panel dataset (249 prefecture-level cities, 1999–2009), this study finds that political and fiscal factors exert significant influence over local officials’ decisions about slack resource levels. The findings of the study bear implications for establishing fiscal rules and improving the performance of sub-national governments in China and other countries.