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The constraint on public debt when r

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  • Ricardo Reis

    (London School of Economics (LSE)
    Centre for Macroeconomics (CFM))

Abstract

With real interest rates below the growth rate of the economy, but the marginal product of capital above it, the public debt can be lower than the present value of primary surpluses because of a bubble premia on the debt. The government can run a deficit forever. In a model that endogenizes the bubble premium as arising from the safety and liquidity of public debt, more government spending requires a larger bubble premium, but because people want to hold less debt, there is an upper limit on spending. Inflation reduces the fiscal space, financial repression increases it, and redistribution of wealth or income taxation have an unconventional effect on fiscal capacity through the bubble premium.

Suggested Citation

  • Ricardo Reis, 2021. "The constraint on public debt when r," Discussion Papers 2111, Centre for Macroeconomics (CFM).
    • Handle: RePEc:cfm:wpaper:2111
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    References listed on IDEAS

    as
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    More about this item

    JEL classification:

    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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