The Soft Budget Constraint Problem in a Dynamic Central Leadership Model

The authors deal with a certain type of timing problem with the central government's allocation of subsidies to local governments, called a ``soft budget constraint (SBC) problem.'''' In fiscal science, it has been indicated that the interregional redistribution policy of the central government causes incentive problems such as excess expenditure or excess debt. However, as insignificant amount of the literature has applied a multi-period model to explain the SBC problem occuring despite the possibility of the existence of intertemporal distortion in an SBC situation. Therefore, the authors examine the problem in two-period models, which are the easiest multi-period models. The authors will demonstrate that the path of occurrence of the distortion caused by subsidization varies according to the timing of the subsidy offer.