Fiscal Sustainability of Local Governments in Japan†

Abstract

The total amount of Japan's local government (LG) expenditures exceeds its central government (CG) expenditures. Japan's LG and CG are responsible for the worst general government's debt situation among the G7 countries. The paper elucidated the fiscal reactions of Japan's prefecture governments (PGs) based on Bohn's (1998a, 2005) method with a panel dataset (44PGs, fiscal years 1974–2016), addressing nonstationary and endogeneity issues. In my model, a positive reaction of the primary surplus/gross regional product (GRP) ratio to the PG debt/GRP ratio (d) constitutes a sufficient condition for sustainability. The results of the study demonstrate the following: (i) the PG in any fiscal condition are assumed to provide sustainable fiscal management; (ii) the PGs in sounder or more dire fiscal conditions probably manage their finances more firmly; (iii) the fiscal transfers from the CG generally ease the PG fiscal conditions; (iv) although primary regressors d and dsq (the square of d) are assumed to be I (1) with some accuracy, they become stationary through cointegration with other regressors.