Expenditure Cuts vs. Tax Hikes: Economic Effects of Municipal Consolidation Strategies

Zohal Hessami, Maximilian Thomas and Georg U. Thunecke

No 12679, CESifo Working Paper Series from CESifo

Abstract: This paper investigates the short- and medium-term causal impact of austerity on local fiscal, economic, and political outcomes. We exploit a 2013 state-level austerity program in Hesse, Germany and manually code 2,900 consolidation measures for 86 municipalities, distinguishing between tax- and expenditure-based strategies. Using synthetic difference-in-differences (SDID) estimations, we compare treated municipalities to a control group of 4,630 municipalities in states without an austerity program. Overall, treated municipalities consolidate through tax hikes (business +12%, property +65%) and expenditure cuts (personnel -6%, investments -62%). Austerity generally stabilizes municipal finances but hurts labor markets (number of firms -13% , salaries -9% , jobs -6%). Economic costs vary across consolidation strategies: tax-based consolidation reduces business tax bases and employment, while expenditure-based consolidation depresses apartment rents. Political costs arise only when consolidation relies heavily on a single instrument.

Keywords: austerity; tax hikes; expenditure cuts; local public finances; consolidation strategies (search for similar items in EconPapers)
JEL-codes: H39 H72 H81 R51 (search for similar items in EconPapers)
Date: 2026
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