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Concern has been expressed by international organisations and in previous studies about the financial situation of local governments, and the question of debt has been identified as a crucial element in efforts to overcome the current financial crisis. However, the variables that can affect the financial soundness of these governments have not been sufficiently studied, despite their direct relation to the credit risk premium. In this article, we aim to identify risk factors for default by local governments, and provide useful information to municipal financial managers. We conducted an empirical study of 148 Spanish municipalities and analysed data from four years, applying a random effects logistic regression model. Our findings reveal that a lower population density, less dependent population, falling levels of per capita income and the presence of progressive local government are all risk factors for default by local governments. Furthermore, our findings indicate that the general financing structure variable and debt composition and maturity variable do influence the risk of default by local governments. Points for practitioners The findings of this article can provide useful information for managers and politicians responsible for the financial management of local governments, in particular, by enabling them to better understand the risk premiums assigned by banks. Specifically, by identifying the risk factors for default, this article highlights the warning signs of this risk, so that suitable arguments may be expressed in negotiating loan repayment schedules and interest rates, and in designing financial viability and restructuring plans.

High levels of debt, provoked by a situation of economic and financial crisis, constitute a major threat to the financial sustainability of governments in the euro zone and in many other parts of the world. This delicate state of public finances also affects local governments and has led researchers to study the variables that influence the volume of bank debt. However, few have specifically analysed the causes of local government default, although it has provoked spending cutbacks and tax increases in many countries. The aim of this paper is to examine political factors that may increase the risk of local government default. Using a logit model for panel data and applying the Basel II rules, we studied the financial performance of large local Spanish governments for the period 2006-2011. Our empirical findings reveal four political factors that may increase the risk of default (the mayor’sknowledge of finance and economics, a low percentage of women councillors, a left-wing ideology and ideological alignment with the regional government).These findings are of great interest for stakeholders who may be affected by local government default, including voters, taxpayers, users of public services, managers, policymakers, financial institutions, creditors, fiscal authorities and central government.

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