LOCAL FISCAL-POLICIES, DEFAULT RISK, AND MUNICIPAL BORROWING COSTS

This paper provides an empirical study of the effects that a local government's fiscal decisions exert on its cost of borrowing, using a sample of New Jersey municipalities. The results are consistent with the view that current period fiscal decisions do impact the cost of borrowing. A one standard deviation increase in the amount borrowed is associated with a 66 basis point increase in the annual yield. Furthermore, that the standard approach of treating current period policy variables as exogenous regressors leads to a downward bias in the effect of additional borrowing on the interest rate.