Subsidies, Soft Budget Constraints and Financial Market Imperfections

In this paper we analyze the interaction between subsidies, soft budget con- straints and financial market imperfections in a simple model of occupational choice. The basic message is that the e ect of soft budget constraints has to be analyzed jointly with other possible distortions that are affecting the economy. In particu- lar in environments where there are severe forms of financial market imperfections, subsidies and soft budget constraints can ease those imperfections and reduce credit rationing problems. The "positive" effect of soft budget constraints depends also upon the degree of institutional failure of the economy.