Fiscal transfers, local government, and entrepreneurship

Can local government spending spur entrepreneurial activity? To answer this question, we study a setting where, around multiple pre-determined and non manipulable thresholds, municipalities with lower tax revenues receive direct and different monetary grants from the national budget. Employing a fuzzy regression discontinuity design, we find a positive impact of fiscal transfers on the number of firms, especially sole proprietorships and small firms. The impact is stronger in municipalities where the opposition is more involved in the legislative process or more parties are represented in the municipal council.